Originally published on February 6, 2020
SEC Commissioner Hester Peirce Proposes 3-Year Safe Harbor Period for Crypto Tokens
Coindesk reported today that SEC Commissioner Hester Peirce (“Crypto Mom”) has formally proposed a safe harbor to give token projects the ability to sell tokens, and a three-year window to achieve the coveted, yet illusive “sufficiently decentralized” or “network maturity” standard.
Under the safe harbor proposal, instead of going through the Howey Test analysis at the time of the token sale, the token issuer would simply have to make certain disclosures — likely including:
· Company information, · Business Address, · Names & contact details for Senior Management, · Names and qualifications of Initial Development team, · Disclosure of founders’ reserve tokens, · Token economics, · Roadmap, · Token’s source code, · Public notice of the token offering, and · A website detailing the transaction history
The offering will also be required to comply with the anti-fraud provisions of the securities laws — meaning issuers cannot use any “device, scheme, or artifice to defraud.” Materially false or misleading statements will not be tolerated, and anyone who has already been deemed a “bad actor” by the SEC will be disqualified from issuing tokens.
In order to stay within the bounds of the safe harbor, the coin needs to achieve “network maturity” (aka “sufficiently decentralized”) within three years. So far, the proposal describes this as a network that is not controlled by any single entity or individual. This will always likely be a facts and circumstance test, but hopefully there will be some criteria where a company can know they have achieved the requisite maturity. Commissioner Peirce proposed a liquidity requirement, “secondary trading is recognized as necessary both to get tokens into the hands of people that will use them and offer developers and people who provide services on the network a way to exchange their tokens for fiat or cryptocurrency.”
This proposal, imho, is a huge improvement from where we stand today, with the only “legal” token sales having to comply with the highly restrictive elements listed in their Howey Test Framework Guidance, or the Turnkey Jet No Action Letter, where the token can’t leave the closed network, be traded on a secondary exchange, fluctuate in price, be used for anything other than its intended use (ex: jet ticket purchases), and no proceeds from the sale can be used to build the network. If these standards aren’t met, under the current regulations, the token is likely a security at the time of sale but can possibly convert to a non-security if they reach a certain level of decentralization where the token or company is no longer controlled by a centralized party. Nobody seems to know exactly where that line is, but the SEC has informally given the nod that Eth and Eos has achieved it.
If a token doesn’t meet these stringent standards, it must be sold pursuant to a Regulation D, CF, or A+ exemption. The challenge with these exemptions is they are quite expensive undertakings requiring significant up front capital for proper document preparation and execution. The most common exemption, Regulation D, can only be accessed by the rich Accredited Investors and they all force the token issuer to lock the tokens for a year. It’s also impossible for the current crypto exchanges to list the Regulation D tokens without a broker dealer license.
Commissioner Peirce’s proposal still requires the majority of the SEC’s other commissioners to adopt it, I sure hope they hop on board!