Interview: Attorney Rob Griffitts On Crypto Laws, the SEC, and ICOs
The cryptocurrency space is still, for the most part, a wild west of new and unfamiliar territories. This is especially true for how the law and cryptocurrency interact with each other. Jay Clayton, Chairman of the SEC recently stated that bitcoin is not a security, but what about the ICOs that have occurred as of late? What happens if the SEC suddenly labels specific ICOs as unregistered securities? With all these questions in mind, Bitsonline had a chat with someone who has some real answers and experience where crypto and law meet: attorney Rob Griffitts of law firm Masur Griffitts+.
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Our Interview with Rob Griffitts, Attorney
Robert DeVoe, Bitsonline: There’s been a lot of talk lately about security instruments versus utility instruments. Some have suggested that in order for a crypto to qualify as a security, it would need to behave in a manner consistent with a security, such as by giving out dividends or by representing ownership in a company. In your opinion, what attributes of a crypto would guarantee or at least make it very likely to be declared a security? For instance, would proof-of-stake mining or other similar schemes like NEO’s GAS distribution count as dividends?
Rob Griffitts, Masur Griffitts+: Before you ask what attributes the token has, you have to consider the circumstances under which the token is being sold. If the token is being sold to raise money to build the network on which the token will function, then you have a security. That’s pretty much been the case with ICOs we’ve seen, which is why SEC Chairman Clayton said he hasn’t seen an ICO that didn’t involve the sale of securities. If the network has been built and purchasers of the tokens are no longer buying into a highly speculative venture that relies on the founders to “build the thing,” then perhaps you have a utility token that is no longer subject to SEC regulation.
In that case, the attributes that you mention need to be examined in order to determine what the purchaser’s expectations actually were. If the token pays dividends or has other attributes that suggest the investor purchased the tokens in order to make money — as opposed to using the tokens to consume the services on the network, then you may have a security — you’re in a grey area. My suggestion is, if you intend to raise capital by selling tokens, consider issuing two tokens. Treat one as a security and follow the securities laws, and treat the other as a pure utility token. In other words, don’t imbue the utility token with any qualities that might suggest a return on investment.
‘Investors Could Sue to Have Their Money Returned’
RD: Given the current suspicion and vagary from Washington, what would be some of the legal implications of an already operating crypto to be later declared a security? How would those results differ for a cryptocurrency project that is based in the US, and for one that is based in another country? For example, would a US-based cryptocurrency project be required to shut down all operations?
RG: Recently there was a lot of speculation that the SEC might declare ether a security. That didn’t happen, which didn’t surprise me. The SEC doesn’t work that way, and even if it did, I don’t think the SEC would come to that conclusion. Ether doesn’t meet the Howey test anymore. In case you’re not familiar with Howey, that is the test the Supreme Court gave us about 70 years ago to determine whether something is an “investment contract” — which is a type of security. Lots has been written on it, so I won’t get into it here.
But more to your question, what you’re asking is — what happens if the SEC decides that you sold tokens that weren’t registered, but should have been. In other words, what happens if you sold unregistered securities? That’s a crime under federal and state securities laws. Also, investors could sue to have their money returned, and they could ask for additional compensation for any damage they suffered. The SEC can sue as well for money damages, or ask the court to impose injunctions prohibiting future securities laws violations and ban officers and directors from participating in securities issuances in the future.
It’s certainly conceivable that the issuer would have to shut its operations as a result. Foreign issuers that sell to US residents are subject to the same requirements as US issuers, and if the conduct were egregious enough, the SEC could ask the courts to extradite individuals to stand trial in the US.
I think the harshest of punishments await those who knowingly and blatantly disregard the regulations. If you act in good faith, get and follow the advice of competent advisors, and engage with the SEC if there are questions, I believe the worst consequences for making a mistake can be avoided.
RD: The IRS has started putting their foot down on capital gains made with crypto, especially bitcoin. Do you think that the IRS will make use of blockchain analysis in an attempt to track potential taxable investors and pin them with tax evasion? Or do you think that for the foreseeable future, they will simply rely on self-reporting and on pressuring exchanges like Coinbase to reveal customer data?
RG: Yes and yes. I think the day will come when many regulators require that things be on the blockchain because of its audibility features. That will take some time, though. Our regulators, like just about everyone else, are trying to get their arms around blockchain and understand how they should approach it. And once that’s done, protocols need to be adopted and new regulations need to be passed. So yes, for the foreseeable future the IRS will do what it’s always done — rely on self-reporting and go to court when it thinks it can make a case.
‘We’ll See Efforts to Regulate Them Indirectly by Imposing Requirements’
RD: On the subject of blockchain analysis, has there been any murmurings about legislating or attempting to control privacy-focused cryptocurrencies like Monero or PIVX in which blockchain analysis would be arguably impossible? On the extreme end, is it possible that the US government for the IRS could somehow declare these types of crypto as outright illegal to own much in the way that the Venezuelan Petro is illegal for US citizens to own?
RG: I don’t know what’s being considered privately by our lawmakers and regulators of course, but I don’t think we’ll see an outright prohibition on their use, partly because that would raise some unwanted constitutional challenges. I think it’s more likely we’ll see efforts to regulate them indirectly by imposing requirements on market participants, like money exchangers that buy or sell these coins, or accept them as payment, all in an effort to discourage their acceptance by the mass market.
The Venezuelan Petro is quite a different case and the ban shouldn’t have been a surprise because Venezuela is a US sanctioned country. A buyer of Petro arguably is funding the Venezuelan government, and therefore would be in violation of those sanctions. So it’s not about the coin itself.
‘SEC Will One Day Require That Securities Be Issued on the Blockchain’
RD: With some of these dark scenarios out of the way, do you see any bright or hopeful spots for blockchain or crypto within the United States and in the eyes of the SEC?
RG: I do — absolutely. I believe the SEC will one day require that securities be issued on the blockchain. It just makes too much sense. The SEC will mandate their use for two main reasons — one is the ability to easily audit, and the other is because the blockchain itself will have the regulations built in. In other words, if a particular security transaction is not compliant with the law, then the blockchain won’t permit that transaction to happen. That will result in lower compliance costs, which benefits everyone. But first we have to see security tokens become a “thing” and that is about to happen. 2017 was the year of the utility token, and 2018 will be the year of the security token. Within a few years, the value of security tokens will eclipse utility tokens by several orders of magnitude.
What About Paying Salary in Crypto?
RD: I’d like to know more about some of the legalities that could affect crypto adoption. Specifically, are there currently any laws in place that could make it difficult for companies to pay their employees in cryptocurrency if they chose to receive it as such? For example, would minimum wage laws require that employees must be paid a set amount in US dollars first and only after that condition is met could employees then be paid in cryptocurrency? Are there any other laws that could prevent companies from paying their employees in bitcoin or another cryptocurrency?
RG: I would advise against paying employees with a cryptocurrency. Entrepreneurs these days face enough challenges, so they shouldn’t be creating unnecessary ones. First, the Fair Labor Standards Act requires that you pay employees in “cash or negotiable instruments.” It’s not clear whether the Department of Labor would consider cryptocurrencies to be negotiable instruments (a check, for instance, is a negotiable instrument).
Also, what happens if the value of the cryptocurrency plummets before the employee can convert it to cash? You may have just paid them less than the minimum wage. You have withholding obligations. Considering the wild fluctuations in price, have you withheld and paid the correct amount to the government? Also, remember that the IRS considers cryptocurrencies “property” and not “currency.” So, if you pay your employees in crypto, and they convert it to cash days later after the price has increased, they may now owe capital gains taxes on that increase. There are too many unknowns.
To your question more generally, two private parties are free to use cryptocurrencies as a medium of exchange. So to the extent you’re not operating in a regulated area (like employment law), use of crypto to pay for goods and services is up to the parties involved.
The Major Takeaways
From what we gathered from our interview with Griffitts, ICOs that are determined to have dealt in unregistered securities to US residents could be facing some harsh punishments. It does seem that as long as they made strong efforts to comply with the law and legal representatives along the way that such projects could avoid some of the biggest setbacks. They could, however, still be facing consequences in some form.
Privacy cryptocurrencies, according to Griffitts, are largely safe from the SEC. But they could face stricter requirements in some ways if the government decides to clamp down on them. This could potentially affect their widespread adoption, if effective.
Lastly, Griffitts recommend that (at least for now) employers not pay their employees in cryptocurrency. While it’s not specifically against the law, doing so could introduce complications that are probably best avoided, especially for companies that are just getting started.
Our thanks go out to Rob Griffitts for this insightful interview and for sharing with us his thoughts and opinions on cryptocurrency and blockchain law.
What’s your take? Learn a few things from Griffitts’ remarks? Let us know if so and what in the comment below.
Images via Pixabay, Rob Griffitts