Bad news for the crypto industry is piling up.
The past 48 hours have brought a torrent of reports likely to discourage industry players.
On June 5, the U.S. Securities and Exchange Commission said it had filed a complaint against Binance, the world's largest cryptocurrency exchange, and its co-founder and chief executive, Changpeng Zhao. The federal regulator accuses them of mishandling client funds and lying to regulators in an effort to circumvent U.S. laws.
"Through thirteen charges, we allege that Zhao and Binance entities engaged in an extensive web of deception, conflicts of interest, lack of disclosure, and calculated evasion of the law,” said SEC Chairman Gary Gensler.
“As alleged, Zhao and Binance misled investors about their risk controls and corrupted trading volumes while actively concealing who was operating the platform."
Binance and Zhao denied the accusations. "All user assets on Binance and Binance affiliate platforms, including Binance.US, are safe and secure, and we will vigorously defend against any allegations to the contrary," the firm said in a statement.
'You Simply Can't Ignore the Rules': SEC
A few hours after this lawsuit, which is in itself an earthquake, the SEC is charging Coinbase, the most popular cryptocurrency exchange in the U.S., with operating illegally because it is "an unregistered national securities exchange, broker, and clearing agency."
In a complaint the SEC also charged Coinbase "for failing to register the offer and sale of its crypto asset staking-as-a-service program," according to a statement.
"You simply can’t ignore the rules because you don’t like them or because you’d prefer different ones: the consequences for the investing public are far too great,” said Gurbir S. Grewal, director of the SEC’s Division of Enforcement.
He continued: "As alleged in our complaint, Coinbase was fully aware of the applicability of the federal securities laws to its business activities, but deliberately refused to follow them.
"While Coinbase’s calculated decisions may have allowed it to earn billions, it’s done so at the expense of investors by depriving them of the protections to which they are entitled. Today’s action seeks to hold Coinbase accountable for its choices.”
The regulator, which filed the lawsuit in U.S. District Court for the Southern District of New York, is seeking injunctive relief, disgorgement of ill-gotten gains plus interest, penalties, and other equitable relief.
These developments are not really a surprise since the SEC in March had sent a warning to Coinbase, advising it of possible enforcement action for alleged violations of the federal securities laws.
Are Cryptocurrencies Securities?
For months the SEC has indicated that excluding bitcoin, most cryptocurrencies and crypto-related products are securities, which would give the regulator a lot of power over the industry.
A security is, according to the agency, "an investment of money, in a common enterprise, with a reasonable expectation of profit derived from the efforts of others.”
The SEC references a Supreme Court judgment of 1946, the Howey Test, that sets what an "investment contract" is and therefore would be subject to U.S. securities laws. An investment contract exists if money is invested with expectations of profits.
Tokens, or coins, until now have not been considered securities. This means that they escape strict regulatory supervision and are not subject to the same rules of financial transparency and disclosure as, for example, shares in a company would be. The listing process for tokens is also less strict than that for securities.
In addition to coins, the SEC is also targeting staking, which is is a way in which investors lock up – or stake – their crypto tokens with a blockchain validator. The goal is to be rewarded with new coins when their staked crypto tokens become part of the process for validating data on the blockchain.
"The reason your crypto earns rewards while staked is because the blockchain puts it to work," explains Coinbase.
The fall in cryptocurrency prices last year and the resulting drop in trading volumes caused many crypto exchanges to rely more and more on staking services as a source of revenue.
But the SEC is determined.
In February, the regulator took an enforcement action against the Kraken exchange over its staking service. The SEC alleged that Kraken's staking service was an illegal sale of securities. Kraken settled the case without admitting or denying wrongdoing and paid a $30 million fine and was forced to shut down the service.
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