The SEC is in Support of ICOs That Do Not Fall Under the Definition of Securities

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Worlds First Bitcoin ICO Presale Ends 15th March
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Worlds First Bitcoin ICO Presale Ends 15th March

The SEC is in Support of ICOs That Do Not Fall Under the Definition of Securities

By Joseph Young - min read
Updated 23 January 2023

According to Gil Penchina a partner at IDG Ventures and Flight.vc, the US Securities and Exchange Commission is in support of initial coin offerings (ICOs) that do not fall under the definition of securities. In a column, Penchina provided insights into the current state of the ICO market and the legality of specific projects such as The DAO and Protostarr.

Earlier this year, the development teams behind the DAO and Protostarr were approached by the US SEC for their ICO campaigns which offered unlicensed securities to US-based investors. The SEC issued a letter to the DAO, the first successful ICO that was launched on top of the Ethereum protocol, and a verbal inquiry request to Protostarr.

The DAO was an automated and smart contracts-based investor fund that allowed investors and owners of the DAO tokens to invest in startups within the cryptocurrency space. Holders of the DAO tokens were granted ownership based on the amount of tokens they had purchased during the token sale. The US SEC categorized the DAO’s ICO as a distribution of securities, as investors in the project were guaranteed to receive an ownership stake in cryptocurrency startups.

Protostarr offered a similar securities distribution system in which the holders of their tokens were entitled to receive a percentage of revenues of YouTubers and Twitch gamers. Because the tokens essentially allowed investors to claim securities based on the revenues of digital content creators, the crowdsale of Protostarr tokens fell under the jurisdiction of the US SEC. After being approached by the US SEC, Protostarr refunded its investors and halted its services.

But, Penchina explained that not all ICO tokens or crypto assets are considered securities. For instance, he listed Filecoin, Civic, and Gnosis as examples of tokens that grant investors credit for future usage. Because the mechanism of such tokens are similar to that of pre-paid gift cards in that they do not guarantee ownership stake in the companies or blockchain networks, those tokens do not fall under the jurisdiction of the US SEC.

Many newly emerged startups and blockchain projects such as EOS, Tezos, and Bancor have become increasingly aware of the consequences of distributing securities as crypto-tokens to unaccredited investors and an unregulated market. To prevent potential conflicts with the US SEC and other financial regulators such as China’s People’s Bank of China, blockchain projects like EOS have started to provide strict guidelines and detailed outlines on the purpose, use case, and categorization of their ICO tokens. For instance, the Token Purchase Agreement of EOS read:

“The EOS Tokens do not have any rights, uses, purpose, attributes, functionalities or features, express or implied, including, without limitation, any uses, purpose, attributes, functionalities or features on the EOS Platform. Company does not guarantee and is not representing in any way to Buyer that the EOS Tokens have any rights, uses, purpose, attributes, functionalities or features.”

More to that, the EOS team further emphasized that the holders and buyers of the EOS token are not entitled to products, ownership, or services. The document noted:

“Buyer acknowledges, understands and agrees that Buyer should not expect and there is no guarantee or representation made by Company that Buyer will receive any other product, service, rights, attributes, functionalities, features or assets of any kind whatsoever, including, without limitation, any cryptographic tokens or digital assets now or in the future whether through receipt, exchange, conversion, redemption or otherwise.”

These guidelines of the EOS ICO relieved the EOS development team from any legal conflict with the US SEC and other government agencies such as the Chinese central bank. Until the ICO market becomes properly regulated or licensed, blockchain projects will have to be more aware of the definition of securities and evaluate whether their tokens fall under the jurisdiction of securities commissions such as the US SEC.