The SEC is suing Binance and Coinbase. What’s next for Crypto?

The US Securities and Exchange Commission (SEC) this week turned the crypto landscape upside down and further intensified its regulatory oversight of the sector by filing civil lawsuits against two of the world’s largest cryptocurrency exchanges, Binance and Coinbase. Citing a laundry list of allegations ranging from a failure to protect investors to mismanagement of client funds, the SEC also identified several well-known crypto tokens (including MATIC, SOL, and ALGO), as well as those related to gaming and metaverse platforms (SAND , MANA and AXS), as potential effects.

The lawsuits fall during the week of the 89th anniversary of the SEC, making the already belligerent debate around regulatory attitudes toward crypto regulation all the more suggestive. It is precisely the organization’s loyalty to history that its critics refer to as its blind spot; to determine whether or not something is a security, the SEC relies on rulings made in the 1930s and 1940s. Blockchain technology proponents argue that digital assets are simply too new and unique to be folded into those laws, and at least one SEC commissioner has expressed frustration with the organization’s “regulation by enforcement” approach. They argue that new laws should be made so as not to hinder innovation and economic development in the industry.

But in filing these lawsuits, the SEC has made it crystal clear that it has no intention of considering digital assets in a new legal light. SEC Chairman Gary Gensler has also made it no secret that he sees the existence of cryptocurrencies as nothing more than an unnecessary nuisance.

So, what’s next for the trillion-dollar crypto industry, and what should Web3 organizations (up to the average crypto owner) be looking for as the regulatory landscape shifts? Just as importantly, why does the SEC seem unwilling or unable to provide legal compliance clarity to the entities it seeks to regulate?

The SEC’s crypto rules: vague by design?

After it was announced earlier this week that the SEC was suing Binance, Changpeng Zhao, the founder of the crypto exchange, took to Twitter to express his frustration with Gensler in no uncertain terms. If Binance has shown a recent willingness to hold the SEC accountable for what it sees as the body’s failures, then Coinbase can be seen as a skilled fighter at this point, taking on the mantle of the cultural leader in the the crypto industry’s struggle for legal relevance and legitimacy.

As such, Coinbase has become increasingly vocal over the past year about the SEC’s apparent unwillingness to cooperate, claiming that the organization moves the goalposts whenever its team tries to comply with regulations. The exchange even went so far as to release a petition in June 2022 calling for legal clarity from the agency. They may get some sympathy from the legal system, the U.S. Court of Appeals for the Third Circuit recently told the SEC seven days to respond to that petition.

Crypto has come a long way.
America still has a long way to go.
We are ready. https://t.co/JC0b4WpF5R

— Coinbase (@coinbase) June 6, 2023

But the frustratingly opaque web of regulatory compliance that the SEC has presented to crypto exchanges may be design rather than incompetence, a strategy designed to heavily arm Web3 organizations to fit into the existing legal framework.

“I think the SEC and the way they approach their enforcement program and the lack of public transparency are inherent,” said Jon-Jorge Aras, a partner at Warren Law Group who specializes in representing individuals and companies in matters related to to financial matters. investigations and enforcement actions related to the SEC and the Financial Industry Regulatory Authority (FINRA) as I now speak to nft.

Aras believes the SEC is viewing this legal battle strictly through the lens of the Securities Act of 1933 and the Securities Exchange Act of 1934. For Gensler, the rules to regulate securities already exist, and it is the duty of anyone dealing with securities acts to comply with those rules. regulations. Any cryptocurrency — even Ethereum, whose status as a security has yet to be addressed by the SEC — is likely to be labeled as such. Expecting anything else from the organization, says Aras, is unwise.

“The public perception that the SEC is not transparent is a bit naive,” Aras explains. “The SEC is doing this on purpose so they can implement their enforcement program to weed out bad actors who don’t act in accordance with the rules. That said, I think there are some legitimate arguments why crypto assets require their own regulatory framework.

Crypto proponents face an uphill battle

However, this framework remains a utopia for the time being. One reason for this is the fact that the SEC and the Commodity Futures Trading Commission (CFTC) have taken a bipartisan approach to regulating the cryptosphere, due in part to Congress’s failure to legislate or even create a special body to promote the industry’s unique needs and virtues (despite years of calls from government officials to do so).

Clarification: This can only affect https://t.co/hSHrrlF7o7 IF granted by the court.

It does NOT affect https://t.co/9rMMAmc1G9. Funds are #SAFU https://t.co/Xedzc0tyuM

— CZ Binance (@cz_binance) June 6, 2023

Aras believes the crypto space will continue to see this kind of enforcement action from the SEC. And while it may seem outdated, it’s not a bad idea for individuals and organizations working in Web3 to go back to the Howey test and focus on the nature of their crypto-related investments and what people expect from those investments.

However, litigating a securities case in court is much more difficult, especially in the current environment where the pejorative public perception of crypto extends to individuals operating in the legal system. Coinbase and Binance are likely to find their most solid legal footing in arguing that the SEC’s opinion on crypto is simply inaccurate and outdated, but that may not be enough.

“I really think that more often than not, the federal bank is siding with the Securities and Exchange Commission when it comes to these enforcement actions,” Aras said. “They are the US government, they have a lot of power and their view of the world dictates a lot. Given the aggressive position that [the SEC] I think Coinbase and Binance will have a hard time litigating these matters.”

Those if you do, those if you don’t

What probably bothers the SEC the most about the nature of the crypto industry (and the tokens that power it) is its highly decentralized nature (nft has now reached out to the SEC for comment, but has not heard back). While the average crypto user can find information about the price of a particular token like Ethereum or its new uses and updates, relatively little information comes from the decentralized organizations that start them or from the exchanges that host the tokens for the public. Consumers, on the other hand, can go to the SEC’s website and find public filings of non-crypto-native companies and learn where that company stands in terms of its balance sheet.

“I think the SEC considers that to be powerful information for an investment-based decision,” Aras offered as a possible window into the regulatory body’s thought process. “Now, it’s very hard for that [the SEC] to go against individual tokens because they are decentralized. It’s hard to get to the individuals [behind them]. It is much easier for them to go after the exchanges that advertise and provide access to what the SEC considers to be securities.”

Ironically, the more an exchange tries to get ahead of legal action by providing the SEC with clear paperwork about its activities, the more likely it is to be labeled a securities offering company and required to be registered. While such robust disclosure could potentially improve future enforcement action, it is far from a guarantee.

What the SEC can and cannot do

One of the things that often gets lost in the discussion about the SEC’s enforcement powers is the fact that it only has civil enforcement powers; neither lawsuit against Binance or Coinbase is criminal in nature. The regulatory body has three main tools at its disposal to go after exchanges.

The first is discouragement, that is, obtaining an ill-gotten gain from violating securities laws. The second is getting a company to cease operations through a court order. Finally, the third includes civil penalties charged in addition to dissuasion, usually as a multiplier of the aforementioned ill-gotten gains.

As for the crypto exchange lawsuits, Aras thinks Coinbase and Binance are likely to put up a solid battle, but ultimately the SEC will argue that there is long legal precedent for these cases.

“The SEC’s position will be, ‘Guys, this is common ground. This is really nothing new here. People have been involved in unregistered securities and operating unregistered exchanges as a broker-dealer for a long time, and we are going to rely on that precedent.” The average crypto owner should be concerned that if they hold their crypto on an exchange, it may be difficult for them to liquidate it and get their money back.

How regulation can make the crypto industry safer

It’s not hard to say that as long as Gensler remains the head of the SEC, this kind of aggressive enforcement action is likely to continue in the crypto world. As for the possibility of the United States’ approach to crypto to push its innovation abroadAras says the hurdles to a thriving US crypto industry are likely to be overcome with time.

For now, any exchange that affects US-based customers would be wise to make sure it complies with US rules and regulations as closely as possible.

“I do think it will push some business overseas, but the biggest capital markets are still in the United States, and these companies involved in crypto exchanges will still want to tap into that market,” Aras noted. “So this is really going to set the tone to be able to do that. And it sounds cliche, but find a securities attorney early on before you get started so you can cut it before it’s too late.