U.S. Securities and Exchange Commission clamping down and investigating ICOs.

The Security and Exchange Commission (SEC) confirmed last week that it is investigating companies and startups associated with Initial Coin Offerings (ICOs). There had long been rumors that this was happening.

U.S. regulations surrounding cryptocurrencies are unclear

Mike Lempres, chief legal and risk officer at Coinbase said the market is being chilled by developments as regulatory uncertainty combined with a great deal of market growth seems finally coming to a head.

The SEC has been considering cryptocurrencies to be securities. Some entrepreneurs have had the idea of creating and selling cryptocoins to investors as "utility tokens" intended to represent the share of a blockchain protocol; but in response to the crackdown, many are giving up on this idea.

Those who are issuing tokens as securities are also having problems. There is not any broker dealer in the U.S. as yet capable of trading security tokens. Issuers are shifting to issuing their tokens under a Regulation D exemption, but there is still a 12-month lockup required by the rules.

Coinbase said in written testimony to the US Congress: "Unfortunately, the current regulatory environment — in particular regulation by enforcement without enough clear guidance on what is permissible — is harming healthy innovation in the U.S. There is so much uncertainty about the definition of a security and the scope of regulatory control that the market is being chilled. This is bad for everyone because the technology won’t stop — it will simply move overseas and we will miss out on the opportunity to cultivate the benefits in the U.S. "

U.S. regulators may consider all tokens as securities

Nick Ayton, CEO of the blockchain funding platform Chainstarter speaking on a panel at the MIT Bitcoin Expo predicted that U.S. regulators could come to consider all tokens as securities saying: "Most exchanges are listing coins that are securities, and our view is a large number of these exchanges are going to be closed."

In order to keep operating many existing exchanges would need to seek exemptions under the rules for securities. MIT Professor Gary Genseler said: "I think it is without a doubt that numerous exchanges will have to seek exemptions under alternative trading system [rules] because many of the exchanges, not all, have tokens that are securities trading on them."

Business being held up by a lack of clear regulations

Things may be unclear for exchanges but the lack of clear regulations makes it problematic as well for new businesses to fill market needs. A company may think it knows what the rules are but until regulators specifically address the cryptocurrency area they cannot be sure.

Joshua Klayman of Morrison Foerster said that people who want to comply and are not wishing to do something wrong are left trying to figure out what the rules are.

The Coinbase presentation to the U.S. Congress notes: "For us, the chilling effect can be shown by the difficulty of determining with certainty when a token is not a security. Because we seek to comply with all applicable laws and regulations, we simply cannot take the risk that a token is later found to be a security."

The demise of the utility token idea

A decision by the SEC in the case of an ICO called Munchee last December showed that what the SEC would consider a utility token rather than a security token was getting even smaller.

Although utility tokens might not be traded companies thought they might be given away but even this may violate SEC rules.

Tekin Salami of PolyChain capital said: "I have perceived a trend in the market wherein legitimate projects seeking to issue a native token for functional networks are steering toward relying on the Reg D exemption within the U.S.."

However, this is quite onerous as not only is there a twelve month lockup but purchasers of the product must be accredited investors with a minimum net worth of $1 million or have earned $200,000 for the last couple of years. This limits the number of buyers.

The U.S. needs to develop clear regulations

The rules in the U.S. are simply too unclear and onerous to encourage more entrepreneurs and investors to enter and serve the crypto market.

Lempres summed it up when he said to the U.S. Congress: "If the U.S. does not provide a clear, thoughtful regulatory environment, the investment can move very quickly to other countries."

Coinbase's written testimony to the Subcommittee on Capital Markets, Securities, and Investment is persuasive: "A clear regulatory environment that fosters innovation while protecting investors is an important step in digital currency’s evolution as a technology. Regulatory clarity will encourage and accelerate entrepreneurial activity in digital currency, ultimately resulting in new products and services that benefit consumers and businesses."

Previously published in Digital Journal

Future of cryptocoins inevitably to be determined by regulators

Inevitably those in the cryptocurrency world will need to interact with regulators. The darker aspects of the cryptocurrency world cause governments to develop policies to regulate the area.

Digital coins are notorious for not fitting into traditional regulations such as for securities. A recent article by Mike Orcutt in the MIT Technology Review argues that what bureaucratic policy makes do to regulate the industry will determine its direction from now on.

The regulation issue is important

Many billions of dollars are on the line. The security of exchanges needs to be ensured so that investors do not lose money through hacks as has already happened several times. Prevention of money laundering through the system and other illegal activities is also a goal of governments. Scam initial coin neofferings (ICOs) need to be caught and prosecuted. ICO's are used to raise money for projects. This may require new regulations.

Even many critics of cryptocurrency still believe that the associated blockchain technology is significant for the future.

Clampdowns are already happening

China has banned any new ICOs and, at least for now, has banned exchanges. It may also clamp down on cryptocoin mining, a big business in China. South Korea has also banned ICOs and threatens further regulatory moves. Japan has introduced a licencing requirement for cryptocurrency exchanges. Japan was where the notorious Mt. Gox exchange fiasco took place in which many investors lost money

However, regulators are still wrestling with how to define cryptocurrencies, and in most countries there is still a noticeable lack of oversight of the whole area.

The situation in the United States

In the U.S., cryptocurrencies are classified as commodities — which puts them under the jurisdiction of the Commodity Futures Trading Commission(CFTC). While the CFTC can regulate futures trading on the two futures exchanges for bitcoin it does not have the power to directly control cryptocurrency exchanges.

J. Christopher Glancarlo the CFTC chair said at a recent U.S. Senate hearing that the CFTC did not have the power to require cryptocurrency exchanges to register with the government, report transactions, or even comply with cybersecuriy checks. In fact, Giancarlo held that under current law no federal agency held such power.

Regulation of the cryptocurrency area is at the state level

This fall-back does not work since cryptocurrency trading inevitably crosses state lines. The state regulations deal with money transmission services. Definitions of what these are vary from state to state. Cryptocoins are more than money and often not very useful as money. The result is confusion. Many technological entrepreneurs are discouraged by the situation. For this reason, many in the cryptocoin area welcome regulation if it suits their needs.

The problem of ICOs

Chair of the SEC Jay Clayton testified to the U.S. Senate that simply calling something a coin did not mean it was outside the jurisdiction of the SEC. He noted that ICOs looked like securities since they are promoted as investment opportunities, with being a medium of exchange very much a secondary characteristic. Yet ICOs have already raised over $4 billion with none being registered with the government.

Regulation is very much a work in progress.

What to expect

The SEC will increase enforcement against suspicious possible sham ICOs. The U.S. Congress may need to pass new legislation according to both Clayton and Giancarlo. Given the Trump administration's negative views on regulations, this may be difficult to pass.

Seven U.S. states have agreed to join forces to regulate exchanges.

France and Germany are pushing for international regulation of the cryptocurrency area at the upcoming G20 summit in March. It remains to be seen if the Trump administration with its U.S. first policy will join in such regulation.

Businesses and governments are beginning to recognize the value of the new blockchain technology. At the same time many in the cryptocurrency area such as Ripple are now stressing their value as platforms to be used by business and governments. Those coins that prove their value for government and business are likely not only to survive regulation but prosper as a result.

Published previously in Digital Journal

New SEC Cyber Unit shuts down PlexCorps ICO offering

A brand new unit of the Securities and Exchange Commission(SEC) has shutdown an initial coin offering scam. This is the first case filed by the new Cyber Unit, created in September to focus on nefarious activity in the world of cryptocurrencies.

As in other countries, U.S. regulators appear to be taking more interest in the opaque and unregulated world of initial coin offerings (ICOs). Both China and South Korea have already banned ICOs.

The PlexCorps case

The SEC Cyber Unit halted the operation of PlexCorps for falsely promising over 1,000 percent in returns. Along with his firm Dominic Lacroix faced charges. Lacroix's partner Sabrina Paradis-Royer was also charged. The firm had been soliciting $15 million from investors. In some cases ICO offerings have not disclosed proper information to investors.

The Commission filed its complaint in federal court in Brooklyn New York. The complaint alleges that Lacroix and PlexCorps marketed and sold securities called PlexCoin on the Internet both in the U.S. and elsewhere with the claim that the investment would yield 1,354 percent profit in less than 29 days according to the regulator.

The SEC's complaint charges Lacroix, Paradis-Royer and PlexCorps with violating anti-fraud provisions of the federal securities law, and Lacroix and PlexCorps with violating registration provisions, the SEC said.

The charge seeks "permanent injunctions, disgorgement plus interest and penalties" The SEC is also seeking to disbar Lacroix and Paradis-Royer from being an officer or director and from offering digital securities.

The purpose of the new Cyber Unit

The Cyber Unit is designed to sniff out illegal and nefarious activity within the ICO and general crypto coin area. The cryptocurrency market in the US is watching closely to see how regulators respond to ICOs.

SEC chair Jay Clayton claims that ICO's closely resemble new company initial public offerings IPOs implying that they should be regulated just as tightly as IPOs.

Other measures being taken to regulate cryptocurrency

The UK and EU are planning a crackdown on cryptocurrency trading amid fears it is being used for illegal activities.

The Internal Revenue Service (IRS) in the U.S. is also demanding information on users of bitcoin to ensure that they are paying the proper taxes on their earnings.

The new SEC Cyber Unit is described on the appended video.

Published previously in Digital Journal