The lack of clear regulations has been a significant factor in the rapid growth of cryptocurrency markets and staking platforms in recent years. However, the SEC is beginning to hint that it intends to start enforcing regulations on this field.
The SEC, or the Securities and Exchange Commission, is a large independent agency of the federal government in the United States of America, with the mission to protect investors, keep markets orderly, fair, and efficient, and make capital formation easier. As such, it is not a surprise that it is becoming increasingly more aware of the cryptocurrency markets as they gain popularity. Its primary purpose is not to allow market manipulation to go unchecked.
- The Securities and Exchange Commission is an independent agency of the federal government of the USA.
- In 2017, it announced that the SEC considers many cryptocurrencies, in particular those created in an Initial Coin Offering, to be investment securities.
- In August of 2021, it also started taking enforcing actions in the DeFi space
- Some possible changes to the crypto space can be regulation of new tokens, exchanges needing to be registered as broker-dealers, and stablecoins facing more scrutiny
- For the moment, staking services do not seem to meet the conditions necessary to be considered as security.
What’s the fuss about SEC’s Regulations and Crypto Staking?
In 2017, the agency warned that it considers many cryptocurrencies, particularly those created in an initial coin offering (ICO), as investment securities (securities purchased for investment purposes). As such, since security trades are heavily regulated, anyone who issues, sells, or trades such tokens may be violating investment laws. Staking platforms seem to be safe for now, but their tokens may also fall into this category. Although technology and trends change more rapidly in the blockchain space, the same does not apply to security laws.
New crypto staking projects and tokens have been introduced in recent years, such as decentralized lending (Defi) and nonfungible tokens. However, although many of them seem to work around the current rules (not having a central operator or the tokens representing something harmless, similar to in-game objects), they remain subject to security laws as long as they are sold for investment purposes. As such, despite initially targeting mainly ICOs, the SEC has now also begun enforcing actions in the decentralized finance field, starting with the DeFi Money Market platform on August 6, 2021.
About a month later, on September 14, the chairman of the SEC, Gary Gensler, testified in front of the Senate Banking Committee with regards to the SEC’s role in the crypto industry. Afterward, in an interview, he mentioned that crypto lending and staking platforms, which have custody of their users’ funds, may also fall under the United States securities laws. After bringing the examples of the 1993 Securities act and the 1994 Securities Exchange Act (which created the SEC), Gensler noted that in his opinion, if a lending product is offered, it is very likely that the product itself is subject to securities laws.
Should the Use of Staking Services And Their Rewards be Considered as a “Security”?
Often the comparison between staking service providers and investment contracts is brought up when discussing “security.” However, does the use of these providers really qualify as an investment contract? To determine this, an analysis and comparison of the SEC v. W.J. Howey Co. case, also called the “Howey Test,” should be performed. According to it, an investment contract should involve:
Investment of Money
At the heart of the matter is not only the question of “Are staking tokens considered an investment,” but also if the potential investor is aware of a risk of loss. In the case of staking services, it depends: If the network enables users to delegate their staking rights to third-party services, there is no risk of loss since the individual does not surrender their custody of the tokens (asset) If the network requires the transfer of control of their tokens to a third party, then the staked tokens are at risk of the third party not returning their custody.
In a Common Enterprise
In this case, the SEC itself has clarified that sharing rewards and delegating validation makes staking services a “common enterprise.”
With an Expectation of Money
Usually, staking arrangements do not advertise themselves only as profit-making mechanisms. Instead, they present themselves as measures to protect the value of its participants’ investments and the security of the network as a whole.
Solely Based on The Efforts of Others
The main point of this part is if the participants of the staking service maintain control of their assets. Typically, by using such services, stakers can delegate their staking rights but hold custody of their assets. Participants also have the right to revoke their delegatory authority. In addition, the success or failure of the network is primarily independent of the activities of a single staking service provider, as it depends on cooperation throughout the decentralized network.
In the last few years, noticing the rapid growth of the cryptocurrency and staking industry, the SEC has begun taking action that could potentially change how cryptocurrency markets function. Starting with the ICOs, it has brought forth the question of whether lending and staking products can be considered investment contracts, and therefore fall under securities laws. For now, staking services do not necessarily meet the conditions needed to be deemed a security. Some possible changes could be regulation of new tokens, the need for exchanges to be registered as broker-dealers, and stablecoins facing more scrutiny.