By
Cory Roberson, Principal at FIN Compliance and FIN Lancer
Ready for “The blockchain” in a town near you?
October 13, 2018.
“Blockchain is not SKYNET.” The
topic may sound like an action-packed sci-fi novel or a machines-taking-over the world-type movie, but there is something
more blooming in the world of technology. Seriously speaking, over the last few years, research
projects using Blockchain (aka. distributed ledger technology (DLT)), is disrupting
the existing processes for transferring data from one party to another.
Last week, I spent some time to dive into the
subject. Following a weekend-long of
activities, that included a hackathon, a panel of attorneys discussed the current
regulatory climate for this new technology in the United States.
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Participants included
(photo): (1) Roni Rose, Founder of Blockchain Bea Podcast; (2) Caitlin Long,
Co-Founder of the Wyoming Blockchain Coalition; (3) Kristen Johns,
Transactional/IP/Blockchain/Patent Attorney; and (4) Alexandra Kramer,
Blockchain Attorney at CKR Law, LLP.
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The panel discussion, held at New York University’s Law school, was a part of a series of workshops, sponsored by Crypto Chicks and Women4blockchain, two organizations geared towards supporting the careers of women in blockchain.
Fundraising the blockchain venture
Moderator
Roni Rose, Founder of Blockchain Bea Podcast, prompted the panelists with an
open question regarding the challenges of launching an ICO in the United
States. Alexandra Kramer, an attorney,
who is also Founder of a blockchain-based startup Womin.io, presented a series
of fundraising scenarios for businesses seeking capital.
She
discussed that many startups fund raise through a securities exemption, commonly
referred to as Reg. D. With this strategy, businesses can offer their
tokens, which we will discuss later in this article, to an accredited investor for
capital. The exemption is a way for
startups to bypass costly securities registration requirements.
According
to the Securities and Exchange Commission (“SEC”), accredited investors are
defined as person(s) who have: (1) $200,000 in salary for last two taxable
years ($300,000 if joint filers); and/or (2) $1 million dollars in net worth. An entity, with combined assets of more than
$5 million, can also be considered as an accredited investor.
Opportunities
exclusive to accredited investors present a case for “anti-financial inclusion,” as expressed by Alexandra Kramer. As written, blockchain companies that utilize
Reg. D exemptions essentially block the average retail client from involvement
in these types of high-risk investment opportunities.
Restrictions
might be a good thing for certain audiences.
Blockchain technology, and its cryptocurrency derivative, still must
prove itself in the broader securities industry. Investment advisors, who serve retail
clients, would be hard pressed to prove suitability in making crypto-based
recommendations due to many factors.
Retail
investors might get involved at some point.
In recent years, the SEC has enacted other exemptions that could play a
role in “lowering the barrier of entry to individuals” as discussed by Ms.
Kramer. She mentioned that Reg. A (crowdfunding/general solicitations) and
Reg. S (foreign investors) could
provide an opportunity for more parties to enter the blockchain space. With an optimistic tone, she expressed that
each startup should consult with an attorney as each set of exemptions, created
before the onset of blockchain, requires explicit guidelines for compliance.
Moreover, blockchain development
continues to move forward despite the regulatory challenges of securities laws
that weren’t originally designed to regulate digital assets.
SEC and CFTC oversight of tokens
In
the United States, aside from state-supported blockchain initiatives, federal agencies
are taking a cautious tone regarding the regulation of tokens. For now, federal jurisdictions such as the
SEC and the U.S. Commodity
Futures Trading Commission (CFTC), release guidance based on its own
interpretations for the possible use of tokens (see ref. DAO Token).
Last
October, the CFTC also jumped into the legislative fray with its own
interpretations for ruling cryptocurrency as a possible commodity. A district court in New York, ruled in favor
of the CFTCs’ viewpoint that cryptocurrency can be considered as a commodity [cc2] .
Overall,
both agencies remain malleable towards any final rulings.
“The
SEC continues to be flexible,” said Alexandra Kramer while expressing that the
U.S. choose not to ban ICO’s as seen in China [cc3] . With that said, the SEC continues to take a
harsher tone towards its general investor protection measures as demonstrated
in its examination priorities for 2018. For
example, as a part of its broad sweeping review into ICOs issued in the U.S.,
the commission charged a purported crypto fund advisor [cc4] with securities law
violations.
"Tokenization": loosely defined in Three Forms
Ultimately,
cryptocurrency may be regulated in all three forms: as a utility, security,
and/or a commodity.
Utility Tokens consists of “A
digital token of cryptocurrency that is issued in order to fund development of
the cryptocurrency and that can be later used to purchase a good or service
offered by the issuer of the cryptocurrency” as defined by Merriam-Webster.
Security Tokens consists of an “instrument
issued with the expectation of rising in value over a certain period of time”
as expressed by SEC Director, William Hinman, during
Yahoo's All Markets Summit: Crypto summit in San Francisco.
Mr.
Hinman, using Ether (“Ethereum”) as a case study, moved away from labeling the
instrument under the commissions’ definition of a security to much elation from
the overall Crypto community. The DAO case [cc5] , largely the SEC’s
preeminent guidance on defining the "securitization" of tokens, lays out the
framework for these highly contested digital assets in the United States
With
that said, as regulations change and Ether’s use case evolve towards further
adoption, the Decentralized Application (Dapp)-based token could land under the
microscope in the future.
Commodity
tokens
are considered forms of money with an intrinsic value.
Blockchain-supportive legislation in Wyoming
Some
states, and its constituents, are meeting the call for regulations in the face
of federal bureaucracy. Evident with
state technology initiatives, such as the Wyoming
Blockchain Coalition, Wyoming is paving the way with legislation in support
of blockchain initiatives. As
a result, many businesses are moving towards these blockchain-friendly environments.
Caitlin
Long, Co-Founder of the Wyoming Blockchain Coalition, discussed the process of token-based
regulations in the state of Wyoming. Her
organization is a proponent for moving tokens out of the definition of a
security (and instead) labelling them as a “digital property.”
Wyoming Blockchain Coalition consists of
educators and technologists that are working to build the ecosystem in the
state of Wyoming. “The mission of the Wyoming Blockchain Coalition is to educate Wyoming
citizens about the power of blockchain technology to cut costs, streamline
administrative processes and spur entirely new businesses in Wyoming.”
http://wyomingblockchain.io/
Wyoming
enacted five bills in support of blockchain technology (source: The National law Review)[cc6] .
HB 19 provides a virtual currency exemption (within
Wyoming) from money transmitter laws and regulations. Cryptos seeking this exemption are subject to
a filing to garner “specified verification authority” within the Wyoming
Secretary of State and the Wyoming Banking Commissioner.
HB 70 provides a utility token exemption (within Wyoming) from
money transmitter laws and regulations.
Cryptos seeking this exemption are subject to a filing to garner
“specified verification authority” with the Wyoming Secretary of State and the
Wyoming Banking Commissioner. Utility tokens, issued
for non investment purposes, will generally be exempt from registration
requirements under Wyoming’s securities laws.
SF 111 provides a virtual currency taxation exemption in
Wyoming. In the state, virtual currency is deemed to be “personal property,” not subject
to property tax in Wyoming.
HB 101 enables corporate records of Wyoming entities to be
stored on blockchain as long as digital security mechanisms are in force (e.g. electronic
keys, network signatures and digital receipts).
HB 126 permit
Series LLCs-- known to be a favorable corporate structure for blockchain-based
businesses.
Other State Blockchain
initiatives
Some states are also making headway with
blockchain-based legislations (source:
NCSL website).
New York (A.B. 9782) says state agencies “are
allowed to accept cryptocurrencies such as bitcoin, Ethereum, Litecoin and
bitcoin cash as payment.”
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Photo: Showing Crypto
accepted at a restaurant in Elmhurst (Queens), NY.
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Vermont (S.B. 269) enables “the creation and regulation of personal information protection companies; creates studies for expanding the use and promotion of blockchain technology; enables the creation of blockchain-based limited liability companies; and creates a study for the potential use of blockchain technology in government records.”
Overall,
most states are in a stage of either proposing bills to define “virtual
currency” and/or promote research for blockchain technology.[cc1] Unfortunately, many state legislation are in
the infancy stages of rule making, likely due to budget constraints as expressed
by Caitlin Long in her discussion of regulatory progress in the U.S.
Because
of the limited regulatory framework, state-specific businesses will have its challenges
when expanding across the U.S. For
example, blockchain-based businesses that operate outside of the borders of
Wyoming (and its protection laws) are open to SEC authority. This activity could prompt a shift in new businesses
operating only in “blockchain-friendly” states.
Chamber of Digital
Commerce
(NCSL.org) provides a summary of
blockchain regulations per state here [cc7] .
Blockchain, Taxes,
and Congress
Snafus
in crypto legislation (and its underlying
Blockchain technologies) demonstrate a lack of a central force in
U.S.-based regulations. Arguably, as
with new technology, there is a learning curve or “grace period” needed as
regulators spend time in research. There
is much to learn about the benefits, and potential pitfalls, of rushing towards
adopting a largely misunderstood technology.
After all, aside from the earliest adopters, Bitcoin was foreign to many
less than just two years ago.
Simply
put, governmental agencies are backlogged with decisions in the space. The Internal Revenue Service (IRS) code
provides little guidance on the taxation of digital assets, and likewise,
congress with its exhaustive legislative process, has yet to vote on several
recent blockchain legislation. (ref. H.R. 6974 [cc8] ).
Our thoughts on blockchain legislation
Regarding state-based initiatives, we believe
that blockchain regulations could pose a stronger footing with the adoption of
uniform standards, such as those enacted by the NASAA’s Uniform Securities Act,
a derivative of the SEC’s Advisors Act of 1940.
Tips on compliance for your blockchain startup.
Speak with a blockchain attorney about
regulations
Structure your business model to fit within
appropriate jurisdictions
Delegate a point person or compliance to
carry out policies and procedures
Stay flexible should you need to change or
adapt your business.
Have courage—its going to be a tough road.
About Women4Blockchain and Hackathon
The Women4Blockchain hackathon and conference
lasted from October 5-8th at New York University. As a hands-on learner, I decided to
participate in the hackathon which required teams to formulate a business use
case using blockchain. On Friday night,
we formed our team and crafted an idea using blockchain technology to provide
immutable transaction protocols. By
Sunday, we completed our pitch deck and presented the idea in front of a panel
of judges. Because of our efforts, we
ended up tying for second place.
Women4Blockchain (W4B) is dedicated to building and empowering pioneers in the world of blockchain technology. https://www.women4blockchain.com/
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Photo (L-R): Mentor: Daniel Dewar. Team: Amanda
J. Dunne, Pooja Mehta, Onyeka M. Obasi, and Cory Roberson
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Lessons from “Block-chaining”
Blockchain is emerging as a disrupter of
current technological mediums in data and automation. In terms of security and immutable protocols, Blockchain
is poised to solve some of our most pressing issues. With that said, there is much to learn
about Blockchains’ use case with
replacing existing technology systems.
Rather, I see blockchain as a means of supplementing other technology, and
only when cost efficient, replacing vulnerable legacy systems.
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Impact
FIN Missions (FINmissions.com) provides business support group
sessions for other entrepreneurs. In addition, Cory has volunteered
for more than fifteen youth programs in locations such as like S. Korea, China,
S. Africa, Thailand, and India.
[cc1]https://www.sec.gov/files/ib_accreditedinvestors.pdf [cc2]https://www.coindesk.com/us-judge-rules-cryptocurrencies-are-commodities-in-cftc-case/ [cc3] https://techcrunch.com/2017/09/04/chinas-central-bank-has-banned-icos/ [cc4] https://www.sec.gov/news/press-release/2018-232 [cc5] https://www.sec.gov/news/press-release/2017-131 [cc6] https://www.natlawreview.com/article/wyoming-enacts-trailblazing-blockchain-and-cryptocurrency-legislation [cc7] http://www.ncsl.org/research/financial-services-and-commerce/cryptocurrency-2018-legislation.aspx [cc8] https://www.congress.gov/bill/115th-congress/house-bill/6974/text?q=%7B%22search%22%3A%5B%22blockchain%22%5D%7D&r=1
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