SEC Releases Framework for Digital Assets

Guidance intended to help investors determine when a digital asset is a security.

FinHub, the SEC’s strategic hub for innovation and financial technology, has published a framework for analyzing whether a digital asset is offered and sold as an investment contract, and is therefore a security. 

The framework is not an overview of the law, but is intended to be an analytical tool to help market participants assess whether the federal securities laws apply to the offer, sale, or resale of a particular digital asset.  The framework is also not a rule, regulation, or statement of the SEC, and is not binding. And it does not modify or replace any existing applicable laws, regulations, or rules. 

“As financial technologies, methods of capital formation, and market structures continue to evolve, market participants should be aware that they may be conducting activities that fall within our jurisdiction,” the SEC’s Bill Hinman and Valerie Szczepanik said in a release. “Depending on the nature of the digital asset, including what rights it purports to convey and how it is offered and sold, it may fall within the definition of a security under the US federal securities laws.”

For example, market participants may be involved in activities that require registration of transactions, and people or entities involved in those transactions.  And even if no registration is required, activities involving digital assets that are securities may still be subject to the SEC’s regulation and oversight, said Hinman and Szczepanik. 

The SEC said the information contained in the framework may apply to entities conducting activities related to digital assets that include: offering, selling, or distributing; marketing or promoting; buying, selling, or trading; facilitating exchanges; holding or storing; and offering financial services such as management or advice.

According to the framework, those considering an initial coin offering need to consider whether the US federal securities laws apply. It says a digital asset should be analyzed to determine whether it has the characteristics of any product that meets the definition of security under the federal securities laws.

The framework also provides guidance for analyzing whether a digital asset has the characteristics of an investment contract.  Both the SEC and the federal courts frequently use the “investment contract” analysis to determine whether unique or novel instruments or arrangements, such as digital assets, are securities subject to the federal securities laws. Federal securities laws require all offers and sales of securities, including those involving a digital asset, to either be registered under its provisions or to qualify for an exemption from registration.

“Determining whether a new type of financial instrument, including a digital asset, is a security can require a careful analysis of the nature of the instrument and how it is offered and sold,” said Hinman and Szczepanik. “If after applying the framework, market participants have questions regarding whether a particular digital asset is a security, they are encouraged to reach out to the Staff through FinHub’s webform.”

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