The U.S. Securities and Exchange Commission (SEC) tore off crypto’s bandage this week, with its back-to-back enforcement actions against two of the most prominent digital assets platforms, Binance and Coinbase (COIN), finally establishing its legal argument against the industry and setting up the future court fights that could decide everything.
Apart from the “extensive web of deception” alleged in the securities regulator’s lawsuit against Binance, the enforcement double feature also overlapped considerably in the SEC’s basic argument against the crypto business model’s clash with longstanding securities laws. Virtually every business activity conducted by the crypto platforms needs to be registered with the agency and must follow securities regulations under the watchdog’s oversight, the agency contends in these actions and in months of previous enforcement and speeches, and virtually every crypto asset they handle should also be registered as securities.
“I think the sheriff is in town and making their presence known,” said Terrence Yang, a former Wall Street lawyer who is a managing director at Swan Bitcoin. The takeaway, in his view: “People should double up on compliance.”
The SEC accused both Binance and Coinbase of operating unregistered exchanges, and offering the sale of unregistered securities, including Binance’s own digital assets: BNB and the Binance USD (BUSD) stablecoin. Those now-familiar charges – echoed in other recent SEC actions – have now reached their logical destination and will likely be repeated down through the industry ranks if the regulator’s latest actions end up victorious.
“These super big multinational exchanges that operate globally across different jurisdictions are just going to have a really, really hard time because the policymakers around the world are getting very, very strict,” said Gustavo Schwenkler, who teaches at Santa Clara University business school and serves on the board of a crypto exchange.
The legal positions taken by the SEC make it “much harder to operate” a U.S. crypto platform, Schwenkler said. “The question about what is a security or not is kind of settled for the agency,” he said, which could limit what any of the rest of the exchanges – such as Kraken, Gemini and crypto.com – can do without SEC trouble.
The agency’s legal position gathers “the types of charges from several years' worth of narrower enforcement actions against other digital asset market players,” said Joshua Ashley Klayman, the U.S. head of digital assets at Linklaters LLP. “It provides a comprehensive map for how the SEC views the crypto landscape and how it views the various moving parts.”
One-stop shops
The regulator went after the companies for operating simultaneously as exchanges, brokers, dealers and clearing agencies without registering in any of those categories in the U.S. That’s been a constant complaint of SEC Chair Gary Gensler, that crypto firms offer one-stop services that tend to set up conflicts of interest with the companies’ customers.
“We allege that Coinbase, despite being subject to the securities laws, commingled and unlawfully offered exchange, broker-dealer, and clearinghouse functions,” Gensler said in a Tuesday statement.
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Crypto lawyer Collins Belton had tweeted on Monday that “the SEC is alleging that Binance, like Trex, Beaxy, Coinbase, and every other crypto trading platform is essentially operating an unregistered exchange, but also provides clearing services and acts as a [broker-dealer]for its customers, and hasn't registered as any of those.”
As Rajeev Bamra of Moody’s Investors Service put it after the Binance news: “These charges have the potential to reshape the regulatory landscape for digital assets.” They’ll create pressures on the other companies “to adapt their practices accordingly,” he said.
The SEC is accustomed to enforcement following a familiar track and usually ending in a consent order in which a company agrees to fix the problems flagged by the agency, pay the fine and move on. But in several cases with the crypto sector, the companies are pushing back and forcing the agency into prolonged court battles. Arguably the most famous example is Ripple and its defense against the SEC’s view of XRP as an unregistered security.
The primary reason for these companies’ willingness to fight is that the accusations are going after make-or-break components of the digital assets businesses. If the SEC says an exchange can’t be an exchange and has to halt trading, the decision for the company is: Shut down the business or keep going and fight the regulator in court.
“We now join a number of other crypto projects facing similarly misguided actions from the SEC and we will vigorously defend our business and the industry,” Binance said in a response on Monday. “The coins do not represent an investment contract of any sort and as such are not securities.”
And from Coinbase on Tuesday:
“The SEC's reliance on an enforcement-only approach in the absence of clear rules for the digital asset industry is hurting America’s economic competitiveness and companies like Coinbase that have a demonstrated commitment to compliance,” said Paul Grewal, Coinbase’s chief legal officer and general counsel, who said the solution will be action from Congress. “In the meantime, we’ll continue to operate our business as usual.”
Yang noted that other crypto firms may have been nervous to see the SEC’s unusual request in the case against Binance (along with Binance.US) that the court intervene on an emergency basis to restrain the company’s activities. It effectively leaves Binance “in the fight for their lives,” he said. But that wasn’t repeated for Coinbase.
Bittrex and Kraken have already been through the enforcement ringer, with Kraken having bowed to a settlement that meant scrapping the staking services that the SEC labeled as unregistered securities. Kraken’s exchange operation hasn’t yet been directly targeted.
“Gensler sees the big exchanges as a key to cracking down on the industry broadly, since they’re the venues where relatively ordinary investors interact with crypto,” said Ian Katz, an analyst with Capital Alpha, in a Monday research note.
Compare and contrast
Binance itself sought to make the clash primarily about the SEC-registration accusations, rather than acknowledging the agency’s accusations that founder Changpeng Zhao and his senior management deliberately and secretly tried to get around U.S. oversight and improperly handled the money of U.S. investors.
“They attempted to evade U.S. securities laws by announcing sham controls that they disregarded behind the scenes so that they could keep high-value U.S. customers on their platforms,” Gensler said in a statement. “The public should beware of investing any of their hard-earned assets with or on these unlawful platforms.”
In its tweeting about the case, the SEC highlighted a remark from a chief compliance officer at Binance, who is quoted in the lawsuit as telling another compliance official, “We are operating as a fking unlicensed securities exchange in the USA bro.”
Nelson Rosario, a Chicago-based digital assets lawyer who has also taught crypto classes, said that quote “is in the universe of worst possible things for them to say in writing.”
That level of drama – the accusations of intentionally misleading the regulators and investors, and improperly mixing and moving customer money – wasn’t repeated in the lengthy Coinbase lawsuit, setting up a stark contrast between the two.
“I do fundamentally believe that Coinbase is a different company that Binance,” Schwenkler said. “Their compliance is probably much stronger than Binance.”
Coinbase – regulated as a U.S. public company – has already been at war with the SEC, even before the agency brings its planned enforcement action. The firm has been fighting the regulator in court, having called for a judge to compel the agency to give formal guidance to the crypto industry, to which the agency responded that no special rules are needed.
In both the Binance and Coinbase cases, the regulator issued a long list of crypto tokens being traded on the platforms despite the SEC’s view they’re unregistered securities. But the SEC hasn’t yet gone after the issuers of those tokens, apart from the platforms such as Binance – and FTX before it – that put out their own.
“Again the SEC claims that particular digital assets are illegally offered securities without suing their issuers, or even identifying their issuers,” said Patrick Daugherty, a lawyer who once worked at the SEC but now represents crypto companies and exchanges at Foley & Lardner in Chicago. “An SEC allegation is not a judicial judgment. It is not a binding legal determination. But neither can it be ignored. The SEC knows this. By asserting that these assets are securities, the SEC is attempting to chill the market for them without having proved its case in court.”
Awaiting Congress
At this stage, the crypto sector has turned virtually all of its hopes toward the U.S. Congress to finally force new crypto-specific regulations, such as those suggested last week by Republicans in the House of Representatives.
The draft bill revealed in the House “is a step forward to not only craft effective regulation for digital assets, but also rein in Chair Gensler’s relentless crusade,” said Kristin Smith, CEO of the Blockchain Association, a crypto advocacy organization in Washington.
“The SEC actions appear to be signaling a move to meaningfully change existing crypto market structure,” Klayman said. “Interestingly, this move occurs as many in Congress are squarely focused on crypto market structure, as well.”
But the scandal-tinged SEC action against Binance, exposing what the agency alleges is the dirty laundry of the world’s biggest exchange, and the long-awaited suit against Coinbase may not help convince House Democrats and the Senate to rally to the crypto cause.
“The Binance allegations are probably unhelpful to House Republicans’ renewed effort to push ahead with crypto legislation,” Katz argued.
Even if U.S. lawmakers moved toward action, the pace of the SEC has become more rapid than Congress. Crypto companies are finding SEC lawyers at their door, and no crypto law is yet waiting on the horizon.