The SEC’s templated admin orders against ICOs — what happens next, and what you should do

The Securities and Exchange Commission cracked down on two more ICOs this week — Paragon and Airfox. (Paragon admin order, Airfox admin order.)

The bit that’s got the crypto world screaming is how they did this — with administrative orders that use large chunks of the same wording. They’ve got a template now, and it pretty clearly applies to most 2017-style ICOs.

The SEC’s actions so far

In July 2017, the SEC issued The DAO Report. It sets out why The DAO‘s tokens were securities under US law — they really obviously meet the Howey test for whether an offering is a security. As Justice Frank Murphy of the Supreme Court put it in SEC v. Howey Co in 1946:

4. The test of whether there is an “investment contract” under the Securities Act is whether the scheme involves an investment of money in a common enterprise with profits to come solely from the efforts of others; and, if that test be satisfied, it is immaterial whether the enterprise is speculative or nonspeculative, or whether there is a sale of property with or without intrinsic value. P. 328 U. S. 301.

5. The policy of the Securities Act of affording broad protection to investors is not to be thwarted by unrealistic and irrelevant formulae.

The Howey test is simple, broad and obvious in its application — and it’s stood up in court for decades.

The classic 2017-style ICO offering is: sell ERC-20 tokens for ETH to all comers, state or imply the buyers will be able to sell them for more later. That this is a securities offering shouldn’t be news to anyone. Lots of people looked at ICOs from early on and noticed these were unregistered securities.

With the SEC having put forward its opinion, ICO promoters couldn’t then claim they had no idea.

The SEC has limited resources, so it takes stuff very slowly and gently:

  • The SEC started by calling around ICO promoters, suggesting maybe they should just stop doing this and give back the money. (They continued just calling around well into 2018.)
  • They prosecuted blatant frauds — such as REcoin, who sold an ICO on tokens backed by diamonds and real estate that didn’t exist; it was particularly egregious in that not even the tokens existed. (The complaint.)
  • In December 2017, they shut down Munchee — not fining them, just telling them to give back all the money. This order was pretty clearly a template to apply against ICOs.
  • In March 2018, they sent out eighty or so subpoenas — to the ICO promoters … and to their advisors and lawyers.
  • In September, they penalised TokenLot, an “ICO Superstore” — who, by dealing in ICO tokens, were acting as unlicensed brokers in securities.
  • Earlier this month, they penalised Zack Coburn of EtherDelta — an exchange for trading ICO tokens that were almost certainly securities.

A couple of days ago, the SEC summarised its efforts to date:

We wish to emphasize, however, that market participants must still adhere to our well-established and well-functioning federal securities law framework when dealing with technological innovations, regardless of whether the securities are issued in certificated form or using new technologies, such as blockchain.

I expect the SEC is surprised they had to go this far. In the real world, SEC guidance tends to be either followed or contested quickly — it’s only the crypto world that act like querulous nerds and think they can argue the definition of the word “is.”



The findings and penalties

Here’s the Airfox finding — the finding against Paragon is identical, with only the company and token names being different. It’s really this straightforward, and lots of people told you so, repeatedly, for years:

Airfox Offered and Sold AirTokens in Violation of the Securities Act

24. As described above, AirFox offered and sold securities to the general public, including investors in the United States. No registration statements were filed or in effect for the AirToken offers and sales, and the offering did not qualify for any exemption from registration.

25. As a result of the conduct described above, AirFox violated Section 5(a) of the Securities Act, which states that unless a registration statement is in effect as to a security, it shall be unlawful for any person, directly or indirectly, to make use of any means or instruments of transportation or communication in interstate commerce or of the mails to sell such security through the use or medium of any prospectus or otherwise; or to carry or cause to be carried through the mails or in interstate commerce, by any means or instruments of transportation, any such security for the purpose of sale or for delivery after sale.

26. Also as a result of the conduct described above, AirFox violated Section 5(c) of the Securities Act, which states that it shall be unlawful for any person, directly or indirectly, to make use of any means or instruments of transportation or communication in interstate commerce or of the mails to offer to sell or offer to buy through the use or medium of any prospectus or otherwise any security, unless a registration statement has been filed as to such security.

Even the penalties are the same:

The claim form is “to recover the consideration paid for such security with interest thereon.” Airfox’s draft claim form is to get this back in the dollar value of the purchase price or trading loss, not in ETH — I haven’t seen Paragon’s, but I’d be surprised if it were much different.

Note that this only applies to those who bought the token in the ICO — not if you bought tokens later.



Legal status

An SEC administrative order does not set a legal precedent. But it does need to be approved by a judge, so the SEC has to make its case at least a bit.

This is a standard SEC strategy — “guidance by enforcement.”

You can fight these if you think you could win! Some do! The SEC does not write the law!

But you’ll need to be very sure that you can defeat the legal reasoning they kindly set out for you.

Stephen Palley analyses what went down — the templating; the evidence is the ICOs’ own public statements; the words “ecosystem” or “utility token” are not a defense, and particularly not when the white paper functionality doesn’t exist yet; promises of a secondary trading market; the Howey Test applies; and no claims of fraud or misrepresentation, just of offering unregistered securities. These could apply to almost any ICO.

What happens next?

Jake Chervinsky, a securities lawyer, has posted a Twitter thread on what he sees coming:

If I’m right, ‘phase two’ isn’t much fun at all — it’s a slow, painful grind where the SEC cleans up the crypto space one settlement at a time …

The securities laws are just one piece of the crypto puzzle. We get to do this all over again with the laws on taxes, money laundering, sanctions, and more.

Jake also notes: “Don’t forget, injured investors can bring all the same claims the SEC can, and they have absolutely no reason to show mercy. I expect many securities class actions before this is over.”

We’re already seeing private actions come through. I previously wrote up the private suit over Unikoin Gold, about Unikrn offering a token they registered under Reg D 506(c) for accredited investors — and then selling it without checking accreditation, and blatantly promoting it as an investment opportunity.

And don’t forget — as well as the SEC, there’s fifty state-level regulators to deal with.

I promoted an ICO in the US — what do I do now?

In its Friday statement, the SEC said about the Paragon and Airfox ICOs:

These two matters demonstrate that there is a path to compliance with the federal securities laws going forward, even where issuers have conducted an illegal unregistered offering of digital asset securities.

The SEC has been just calling up ICOs and suggesting they make good. I expect this tacit implicit amnesty is pretty much finished, though.

I’m not a lawyer, let alone your lawyer. So — talk to your securities lawyer. If you don’t have one, get one.

Preston Byrne isn’t your lawyer either, but he is (now) a US securities lawyer — a partner at Byrne & Storm, PC. (And he’s told you so about ICOs since 2014.) Here’s his advice when I asked:

The answer is simple: if you think you’re noncompliant, call a lawyer, today, and get psychologically prepared to put in a lot of time and effort on a compliance program.

What exactly this will look like for a particular startup will depend on a number of factors, e.g. whether any tokens have actually been issued or whether only SAFT notes are outstanding, whether those tokens have been listed on public exchanges, the residence of the team and investors, and the content of marketing efforts undertaken to date. Depending on those factors a number of different pathways might be available, including registering the token as a security, eliminating any U.S. touchpoints and moving the project offshore, or winding the project down and refunding investors. Digging in one’s heels and fighting is also a possible option, but one which I would consider inadvisable for most startups.

Ultimately what options are available will vary on a case-by-case basis. Getting counsel involved at an early phase will save a lot of headaches down the line.


The SEC has set up its Strategic Hub for Innovation and Financial Technology — because they’d rather you do it right than do it wrong. If you want to do an ICO — talk to them.

Regulators are not there to harsh your mellow — the third point of the SEC’s mission statement is “facilitate capital formation.” They want you to make a great big pile of money!

But point two is “maintain fair, orderly, and efficient markets” — and point one is “protect investors.”

See the SEC all dressed in green
ICO ICO away
He’s not a man, he’s a fining machine
Put in you jail today
Put in you jail today


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