SEC’s recent ruling regarding securities and ICOs has been the origin of quite a bit of discussion within the past two months. San Francisco’s “Bitcoin Social” event looked to extend some of this discussion in the means of a roundtable hosted by Thomas Hunt of World Crypto Network. The panelists included Lindsay Lin of Stellar, Reuben Bramanathan of Coinbase, and Sarah Hody of Perkins Coie. The answers listed below are notes I took from the live discussion, so feel free to watch the recording of the event to hear everything in full.
Is Bitcoin a currency, commodity, both, or neither?
Lindsay: The CFTC has said that Bitcoin is a commodity and is subject to CFTC regulations, and that the way Bitcoin is used is similar to that of a currency. It’s analogous to a medium of exchange, and trade of value.
Reuben: It’s different things depending on who you ask. Fundamentally, it’s different to anything we’ve seen before. The same technology is creating things like security; can be a lot of things. There are a million ways to answer this question.
Sarah: This technology can be used as a currency, security, or a commodity.
Is Bitcoin legal?
Sarah: It depends on what you’re using it for. It can be used for lots of legal and illegal things. At a technical level, nobody is saying Bitcoin as a technology is illegal.
Reuben: Is the internet legal? It’s the same challenge.
Lindsay: What does it mean for a cryptocurrency to be legal? Can you use it to pay taxes, send payments day to day? The US government doesn’t say you can’t use it to transact. Although it can’t use it to pay taxes or interface with the government, there are no restrictions on private transactions unless illegal.
On taxation: You would have to pay taxes whenever there is a transaction with Bitcoin. Capital gains taxes. Or if you receive BTC as payment as salary, etc. you DO have to pay taxes. No taxes to pay on just holding.
Reuben: Coinbase is taking on the IRS regarding user privacy. IRS wants customer records from Coinbase users. Need new laws that make sense for cryptocurrency and taxation. You don’t want capital gains taxes every time you buy a coffee; we need more sensible taxation for cryptocurrency.
Moving between exchanges, do you have to pay taxes?
Sarah: Asking Coinbase to report on taxes, Coinbase has no idea if I’m sending my Bitcoin to my blockchain.info wallet. That looks like a taxable event, so anything they report to IRS would make it look taxable. How do you identify what is a taxable event? The answer is no, only when you dispose of property. No taxation on transferring between wallets.
What about altcoins (Litecoin, ETH)? Are these legal?
Sarah: Again, it depends on what it’s being used for.
What about privacy altcoins? (Monero/ZCASH)
Lindsay: Monero/ZCASH can be used to commit crime. But you wouldn’t get rid of the internet to get rid of crime. Maybe limit? Unless ZCASH/Monero become predominantly used to commit crime, it won’t really be an issue.
Sarah: I think it becomes a similar reporting problem as we have today in restaurants with cash. If nothing changes about how tokens are generally taxed, then I think you end up with the same problem as you have with cash-based transactions today. I don’t think the IRS will come shut it down (right now…) but it could become an issue. Coincenter is hard at work tackling these issues.
What about New York and the BitLicense? Should we have unique licensing laws in each state?
Sarah: It’s a hard question to answer. It’s a major pain in the ass. It’s pretty obnoxious to have to look at every single state and figure out what the laws are. It’s not just for money transmission, it becomes a problem with securities as well (different state taxes). Do I see it going away anytime soon? Probably not in the short term. States are trying to work together on more long-term regulation. The US is where a lot of innovation is happening, not best world scenario but is solid bet for innovation.
Reuben: This is the US getting it’s act together and KEEPING innovation here.
Lindsay: We should lobby for regulatory approval of reciprocation between states, so you don’t have to apply for licenses in individual states.
Thomas: Like a marriage license!
What’s an IPO (initial public offering)?
Sarah: A set of filings and offerings that are submitted to FCC when you want to sell shares or investment contracts to anyone interested in buying.
Thomas: A lot of forms, big event, etc. RING THE BELL!
What’s an ICO? (initial coin offering)
Reuben: Unlike an IPO (very structured / nobody IPOs on day one), an ICO is a sale of a digital token on blockchain that represents some set of rights, regulated thru small contract sale.
Thomas: It’s like giving a restaurant ten years of profits in advance. Is this a good idea?
Lindsay: It might be a good idea in that it provides initial capital to tackle grandiose products, some startups might have trouble with funding large products. Can be smart for long term projects. Might be bad because you have to know how to spend this money wisely, don’t keep in Bitcoin (which tends to fluctuate), attracts regulatory attention.
Is it good to have so much money in advance without the structure of an IPO?
Reuben: Fundamentally, an ICO should be a way of raising money for a new protocol or application. If you want participants to have skin in the game, it makes sense. If you’re just trying to raise money, then raise VC money or traditional money. ICO is NOT good for raising money for everything.
What is the HOWEY test?
Sarah: It’s a 1946 verdict that basically says an investment of money into a corporation with the expectation of profit is an investment contract. An investment contract is a security. Just like an IPO, then you have lots of paperwork with such a contract.
Can / should you pre-sale a utility token?
Sarah: Utility is the magic word. Presale can get into a number of problems, where if you’re not able to deliver then that becomes either an advanced sale of a commodity that the CFTC cares about or it can be structured as a security (it depends!). When you hear the utility buzzword, then you’re trying to be under SEC regulation and also becoming a virtual currency. Field goal is if the token actually has a purpose, fail HOWEY test and not a virtual currency. Sale of a commodity is not a sale of virtual currency.
Reuben: We hope SEC will say that tokens have utility and so then it’s not a security. BUT we don’t know if that’s going to be the case. SEC says it looks like people investing in venture fund expecting profits. The other end is that it’s a utility token that does X gives whatever feature, should be less like a security but nobody can say that for sure right now.
Lindsay: Unless SEC gives on-point guidance, nobody can say a utility is not a security. All 50 states have their own securities regime. Even if the SEC says it’s not a security, California could say that it is a security. California says club memberships could even be a security.
SEC found time to warn us about the DAO, but didn’t take action because funds were returned.
Sarah: It was a good warning. What the SEC said didn’t surprise anyone. Yes, the DAO looks like a security. SEC picked an easy target that was an obvious security, and so it shows that they’re paying attention. They aren’t taking an aggressive stance. Some tokens may not be a security.
If a future token goes down and people lose $500m, will the SEC step in?
Reuben: Yes. There are straight-up scams in for a rude awakening. SEC used DAO as a warning shot.
Lindsay: SEC did the right thing, it acts as a clear signal to the public. They released their report a year after the incident, relatively slow reaction time. If you have an unregistered security, you might be subject to lawsuits from investors. Will see more action; SEC is pretty busy.
SEC: “If an existing company makes claims they’re making an ICO, be EXTRA careful.” Will this second warning work?
Reuben: This is about the effect of ICO hype on stock market price. Goes to show how hot this space is right now, traditional companies can create an expectation that they’re doing something they’re not by using these terms. If you can raise money traditionally, why are you doing an ICO? There’s something wrong there.
Bitfinex received a letter (July 25) that referenced the security exchange act of 1934. Specifically about the situation with DAO and Bitfinex. Could exchanges be at risk?
Lindsay: If a cryptocurrency exchange sells tokens that are later cat as securities, they have to go by requirements as a securities exchange. Because they’d like to avoid this complexity, US exchanges may delist securities tokens.
Will Coinbase have to potentially delist some coins?
Reuben: The SEC report refers to BTC and ETH as currency, not securities. That’s why Coinbase is very conservative about our digital assets and currencies. We only add coins with longterm value + that meet customer’s demand.
Will all US exchanges flee?
Sarah: No. As annoying as it is, this is where innovation is happening. This will continue. Companies will figure out how to navigate this. Will exchanges in the US continue offering tokens that are securities? Maybe not. Institutional exchanges may.
What about LocalBitcoins? Will that exist?
Lindsay: I think you can’t prevent these small over the counter transactions from happening.
What’s a decentralized exchange? Is it like BitTorrent? Is it legal?
Sarah: You could get in trouble. The activity that is regulated is for buying and selling dig currency for other currency. You don’t have to be an exchange to be participating. You could get in trouble for un-licensed transmission. Enforcement headache.
You can see the full, in-depth answers to all questions listed above (and more!) from World Crypto Network’s recording of the panel. Feel free to also stay for the Q&A session that followed the roundtable.