And away we go: US SEC Crypto Task Force’s Roundtable discussion launches dialogue on digital asset regulation

Last month the Securities and Exchange Commission’s (SEC) Crypto Task Force hosted its first of four planned roundtables on the topic of digital assets. These roundtables are focused on gathering views and generating discussion concerning the SEC’s role and jurisdictional reach with respect to digital assets regulation in the US. 

For this first roundtable, the SEC brought together several industry veterans, representing a wide array of perspectives and backgrounds, to discuss whether, and, if so, when digital assets or transactions in digital assets should be classified as securities and to explore the implications of such classification under the SEC’s existing regulatory frameworks. 

Commissioner Hester Peirce suggested in her opening remarks that a restart of the SEC’s approach to digital assets is necessary to address key definitional questions before embracing a more comprehensive regulatory framework. Below we summarize some key points of discussion at the first SEC roundtable.

Key discussion points: 

01| Classifying digital assets and transactions in digital assets

The panel engaged in a robust discussion of whether transactions in digital assets, or digital assets themselves, qualify as securities under the traditional tests applied under U.S. federal securities laws. Panelists highlighted the need for a simple taxonomy that delineates when an asset is considered a security under the current legal framework. 

Many panelists argued for a principles-based regulatory approach and also emphasized the shifting nature of digital assets – they can be controlled by one or many individuals or become truly decentralized. Some panelists voiced support for a regulatory test for decentralization, urging for an evaluation of the economic reality behind digital transactions, rather than just the legal relationship between issuers and investors. 

All panelists expressed their views on the workability of the Howey test as applied to digital assets, with some panelists arguing that a complete reliance on Howey is unworkable for digital assets. The Howey test, from SEC v. W.J. Howey Co., assesses whether a transaction is an investment contract and, therefore, a security, by examining whether it involves an investment of money in a common enterprise that carries a reasonable expectation of profits based solely or primarily from the managerial or entrepreneurial efforts of others. 

Applying the Howey test, certain digital assets such as security tokens could conceivably be regarded as securities based on the view that token holders have a reasonable expectation of profit based on the tangible efforts of known token issuers, especially where tokens represent ownership in assets or companies. 

02| Proposing a decentralization control test

Several panelists proposed a decentralization control test as a potential method to assess whether a digital asset would constitute a security under the Howey test, specifically focusing on the "efforts of others" criterion within a common enterprise. 

Such a proposed test would examine the extent to which token issuers can exert control over the asset, with sufficient decentralization implying reduced regulatory scrutiny from a U.S. federal securities law perspective with the view being that if token issuers do not have sufficient “control” over an asset, token holders could not reasonably expect a profit from the efforts of token issuers as there would be no single token issuer making decisions or driving the profitability of an asset such that it would be regarded as an investment contract under Howey.

Some panelists highlighted that decentralization exists on a spectrum, which necessitates a nuanced analysis. One advocated that such evaluations should be, ultimately, left to courts, pointing to the complexities involved in distinguishing sufficiently decentralized assets. However, other panelists disagreed, advocating for the development of a presumption of control test that could sufficiently capture the nuances of decentralization. 

03| Exemptive relief and regulatory solutions

In the case of digital assets offers and sales that would constitute transactions in securities, in some cases, valid exemptions from registration under the U.S. federal securities laws may exist (for example Regulation D or Regulation S, in each case, under the U.S. Securities Act of 1933, as amended). However, the criteria for satisfying certain exemptions may not necessarily reflect the realities of the swiftly evolving digital assets space, and some panelists highlighted the need for custom disclosure requirements in certain instances. 

In many cases, the rights and properties ascribed to various digital assets may differ materially from those of traditional securities (for example, such digital assets may not resemble stock, bonds, etc.) and, as such, may not fit comfortably within the more traditional securities law framework.  In addition, the types of information that digital asset purchasers may require in order to make informed purchase decisions concerning a given digital asset may vary considerably from the information that investors in equity securities of a corporation may need.

Certain panelists raised the possibility of the U.S. Congress amending existing U.S. federal securities laws or creating new legislation focused specifically on of digital assets – thereby providing the SEC with a clearer legislative direction under which to regulate digital assets. That said, other panelists emphasized the need for a nimble and adaptable regulatory scheme to effectively address the rapid evolution of crypto and other digital asset-related transactions and secondary market activities. 

A few panelists even suggested that, should the SEC choose a more hands-off approach in regulating digital assets, other agencies, like the CFTC, may fill the gap, further noting that the CFTC may not be as equipped as the SEC to deal with the economic reality of unsophisticated investors trading in digital assets.

04| Policy implications

Throughout the discussion, the panelists stressed that policy considerations – and not just rote application of legal tests developed in a drastically different context - should inform the determination of whether an asset, including a digital asset, is a security. 

One point that all panelists seemed to agree on was that as the industry continues to evolve, regulatory authorities like the SEC must focus on aligning the incentives of entrepreneurs with investor protection needs, ensuring that the unique attributes of digital assets are adequately captured within legal and regulatory frameworks.

05| Digital asset priorities

Recently, in the opening statement of his confirmation hearings, Paul Atkins, who was nominated by President Trump to lead the SEC, highlighted the importance of digital assets to his agenda. Specifically, Atkins highlighted the need for a “firm regulatory foundation for digital assets through a rational, coherent, and principled approach.” 

Further, although the SEC has recently dropped or negotiated settlements on various enforcement actions in the crypto space, SEC Enforcement Director Sam Waldon clarified in a recent panel that his priority remains to tackle fraudulent crypto securities cases, among other things. Bill St. Louis, FINRA’s head of enforcement also reported that FINRA has been receiving crypto-related enforcement referrals. 

Looking ahead

The first roundtable of the SEC’s Crypto Task Force marks a pivotal step in addressing the evolving landscape of digital assets as it relates to the US federal securities laws. A cohesive approach that balances oversight with facilitative measures may be key to ensuring safe yet dynamic digital asset markets.  

As discussions continue, and the lines of communication between the industry and the SEC are strengthened, we expect to see meaningful steps forward towards regulatory clarity and functionality for the future of digital assets as financial products.  Stakeholders should continue to stay informed of these regulatory developments, anticipating changes that may impact their operations and investment perspectives.