In February this year, the Securities and Exchange Commission (SEC) issued legal summons to about 80 companies in the cryptocurrency market in a major regulatory crackdown. Media reports at the time showed the regulator was looking for ways to structure the initial coin offering processes that have remained unregulated.
The SEC took this move based on its belief that ICO companies that fund companies who raised funds through the sale of tokens were in breach of the securities laws. A few months later, another SEC could be looming. Through its Director for Trading and Markets Division, Brett Redfearn, the regulator has said raised concerns over the low level of self reporting among cryptocurrency exchanges.
Previously, the Chairman of the SEC, Jay Clayton, has said that tokens and other digital assets issued during ICOs are securities and therefore subject to regulation by the agency.
By extension, exchanges that trade in such assets should be registered with the regulator. According to the SEC, several exchanges continue to trade digital assets in the US without registering with the agency.
Questions abound on why cryptocurrency exchanges are opting not to register with the SEC. According to ePLUM founder and CEO, David H. de Pingre, exchanges may be completely unaware that they need to register with the regulator.
"Companies are likely to avoid compliance at this time for two reasons— inertia and lack of knowledge. This is understandable, but the price of failure is likely to be high," Pingre says.
Also, there is uncertainty in the market because the regulator has not taken a very firm stand on cryptocurrency regulation. According to Jerry Floros, CEO and founder of MoneyDrome Edge, exchanges are not aware of what the cost of their non-compliance could be.
He notes that, "SEC Chairman, Jay Clayton is right, almost all ICO tokens (99%) are securities because from the moment these tokens are ‘flipped’ for a quick profit on the secondary markets, they fail the decisive ‘Howey’ test. Since the SEC has not taken a clear and decisive stance on the regulation of cryptos, coins or tokens, everyone involved in cryptos or ICOs is uncertain and at present, does not know what the consequences of non-compliance are."
Securities laws is not very clear on how digital assets should be regulated. As such, cryptocurrency exchanges are not ready to provoke the regulator by filing reports according to Bank52 co-founder and CEO, Thomas Labenbacher.
But also, for many cryptocurrency companies, the concept of decentralization of virtual assets gives the impression that they are not to be controlled by government agencies. This could have led exchanges to believe that they have no reporting obligations to the SEC.
Lavish Crypto Pty legal officer, William Cartmell attributes this to the fact that governments never thought cryptocurrencies would last for long.
He says, "Since bitcoin came out in 2008, governments have ignored digital assets since it was not expected to last as long as it has now. This gave the impression that the SEC won’t successfully regulate this area. Until now, the SEC hasn’t made it clear to companies in the digital assets space what is required of them in terms of regulations. The SEC is going to crackdown on the cryptocurrency industry as it is starting to become more mainstream in the world."
In his view, Floros thinks cryptocurrency exchanges could be riding on the fact that no federal or state law expressly provides for self reporting.
"Most market participants and exchanges take a ‘wait-and-see’ approach simply because the requirement to self-report is not yet enshrined in federal or state law or a clearly-defined SEC regulation or requirement. In other words, the exchanges do not self-report because they simply ‘do not want to wake the hibernating bear’ that is called the SEC."
Disclaimer: David Drake is on the advisory board for most of the firms mentioned or quoted in this article.