Analysis: The SEC is Dropping the Hammer on ICOs

Myriad subpoenas and new compliance requirements may imply that federal regulation is imminent.

Up until this point in history, virtual currency regulation in the United States has consisted of vague applications of federal law and a patchwork quilt of widely varying state-by-state regulations. However, with widespread reports that the United States’ SEC submitted “scores of subpoenas” last week and a series of crackdowns on various dealings in the cryptosphere, it seems that the regulatory hammer is about to drop.

Initial coin offerings (ICOs) in particular have been a subject of rather high interest as of late; the ICO industry that started the year 2017 as a multi-million dollar business has boomed into a multi-billion dollar giant, disrupting venture capital and crowdfunding in a totally unprecedented manner.

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Countries around the world have scrambled to create appropriate regulations to protect ICO investors from fraud, collect taxes on ICO profits, and to prevent criminal activity. Some countries have gone so far as to ban the practice outright (see: China), but the United States has been surprisingly methodical in its approach to place regulations around the practice of ICOs/.

Playing Regulatory Catch Up

Despite the fact that the myriad subpoenas sent out last week have been ringing alarm bells across the nation and the world, many in the crypto community believe that the orders are par for the course–nothing more than routine information-gathering that is necessary for any due process.

President of 360 Blockchain USA Jeff Koyen said in an email to Finance Magnates that “these subpoenas are not surprising, and they’re not worrying. The SEC has very clearly decided to investigate cryptocurrencies and ICOs aggressively. As they should be — there’s a lot of money moving around, and not everyone is playing by the rules.”

Jeff continued to say that “the ICO [industry] is simultaneously looking for those bad actors, and also gathering the research needed to make more informed regulatory decisions. Remember, the SEC is playing catch-up and while also trying to nail a very fast-moving target.”

Indeed, the SEC has been faced with a difficult task: “Very few people in the crypto world — even the oldest ICO veterans—can track and understand every ICO. The SEC must be overwhelmed trying to separate the legitimate and compliant offerings from those that are less so.”

ICOs May Need to Follow Bank Secrecy Rules

According to a Bloomberg report, companies who sell tokens for fiat or other digital currencies during an ICO are legally classified as money transmitters, and are therefore subject to the same Know-Your-Customer (KYC) and Anti-Money-Laundering (AML) requirements that more ‘traditional’ money transmitters are.

A letter from Drew Maloney, the Financial Crimes Enforcement Network’s (FinCEN) assistant secretary for legislative affairs, to Oregon Senator Ron Wyden that was made public on March 6th stated that firms dealing in cryptocurrency are required to comply with the Bank Secrecy Act–in other words, they must follow the necessary KYC and AML laws in order to prevent the financing of terrorism and other financial crimes.

The letter stated that “…a developer that sells convertible virtual currency, including in the form of ICO coins or tokens, in exchange for another type of value that substitutes for currency is a money transmitter and must comply with AML/CFT requirements that apply to this type of [money services business].”

Crypto exchanges that host ICOs were also included in the writing: “An exchange that sells ICO coins or tokens, or exchanges them for other virtual currency, fiat currency, or other value that substitutes for currency, would typically also be a money transmitter.”

Of course, his means that firms who are planning to hold ICOs in the future must ensure that their token sales are compliant with the Bank Secrecy Act. However, according to Coin Center Director Peter Van Valkenburgh, the act could be applied retroactively; there has been no official announcement that this will be the case.

Either way, Van Valkenburgh says that the new requirements will “chill” the white-hot ICO market, which pulled in $1.5 billion in the month of February alone.

The SEC First Stepped Up to the Regulatory Plate in Late 2017

The crackdown began with the halting of the $15 million ‘Munchee’ ICO near the end of 2017–Munchee, a startup that was building a blockchain-based platform for restaurant reviews, was ordered to refund ICO participants after the SEC declared that the company was selling unregistered securities (the company had marketed its coins as utility tokens.)

The next major action came at the end of January 18, when the SEC took action to end the $600 million ‘AriseBank’ ICO, calling the token sale an outright scam. “The ICO is an illegal offering of securities because there is no registration filed or in effect with the SEC, nor is there an applicable exemption from registration,” the SEC’s official complaint declared.

SEC Chairman Implies that Federal Regulation is Underway

A week after actions were officially taken against AriseBank, SEC Chairman Jay Clayton published a statement saying that “as market regulators, is to set and enforce rules that foster innovation while promoting market integrity and confidence.”

The statement continued, hinting that federal regulatory action is imminent: “These markets are new, evolving and international. As such they require us to be nimble and forward-looking; coordinated with our state, federal and international colleagues; and engaged with important stakeholders, including Congress.”

However, Clayton spoke with a much harsher tone in February when he addressed the Senate Banking Committee, revealing that as of February 6th, no ICOs had registered with the SEC: “Many ICOs are being conducted illegally,” he said.

“Their promoters and other participants are not following our security laws. Some people say that’s because the law isn’t clear. I do not buy that for a moment.”

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