‘Safe Harbor’ for Virtual Currencies : Myth or Reality

It seems like venture capitalists are sailing into the unknown while “seeking safe harbor for virtual currencies,” as The New York Times columnist Nathaniel Popper proposed a few days ago in his report on the meeting between Venture Capital Working Group and Securities and Exchange Commission held in Washington on March 28. Besides Andreessen Horowitz and Union Square Ventures — the two largest players in the virtual currency industry — the group included lawyers from Perkins Coie, Cooley, and McDermott Will & Emery.

The reason for their gathering was to discuss federal regulators’ consideration whether virtual currencies, including Ether, the most widely used digital token besides Bitcoin, should be categorized as security. Of course, the group of investors and lawyers behind Andreessen Horowitz answered with the idea that could protect some tokens by categorizing them as “utility tokens” instead of securities. The thing is that a number of firms and companies in the digital asset community are finally realizing they are subject to regulators.

Copyright: sdecoret / 123RF Stock Photo

Copyright: sdecoret / 123RF Stock Photo

Over the past year, around 6 billion have been raised through initial coin offerings (ICOs) by entrepreneurs who sold digital tokens to raise funds for their projects. Moreover, thousands of virtual currencies saw a light of the day this way. Knowing that one of the purposes of these tokens is to serve as internal payment methods in software built by mentioned entrepreneurs, this comes as no surprise. Moreover, that’s the main reasons they should not be considered securities. After all, they are having a utility, as entrepreneurs claim.

However, Jay Clayton, the head of the S.E.C. is of the opinion that a great majority of tokens issued through an ICO should be put on record as security. In addition, a number of companies in this industry have received subpoenas from S.E.C. investigating how they issued and marketed digital tokens to investors. Because, when investments are securities, the only way to trade them is on regulated exchanges. Of course, accompanied by all the necessary paperwork. Since there are no regulated securities exchanges that offer virtual currency trading, it’s clear what are federal regulators aiming for.

So, in an attempt to “save” Ether form becoming security, the group played on the card of “decentralization” suggesting that Ether is now distributed similar as Bitcoin, thus being “so decentralized it should not be deemed security.” Apparently, this circumstance puts in shadow the fact that Etherium, the Ether’s virtual currency network did raise money by selling tokens through what we now know as ICO.

They propose the same rule should be implied on digital tokens. In other words, securities laws shouldn’t apply to digital tokes which achieve “full decentralization” or “full functionality.” Meaning, this might be possible only when the token creator doesn’t have the power anymore to make changes to the functionality of the tokens using the network, and when a token is no longer just a speculative investment but “it can be used for its intended purpose on a computer network.”

According to anonymous sources, regulators weren’t thrilled with the proposal. In the meantime, a number of law firms and entrepreneurs, are working on the ways for virtual currency project to issue their tokens as securities, although the question remains what is the destiny of tokens which in the first place weren’t registered as securities, but eventually have become securities.