For the first time in history, a US jury has voted against the Securities and Exchange Commission’s (SEC) designation of a crypto asset as a security.
When asked, “Did Plaintiffs prove that any of the following were investment contracts?,” the jury voted “no” for a token called Hashlets, going against the SEC’s claim in paragraph 91 of a 2015 filing.
The companies involved in the jury trial, GAW Miners and ZenMiners, sold tokenized shares of computing power that they claimed to own. They called these crypto assets “Hashlets.”
Investors sued them. Plaintiffs alleged the firms didn’t have as much computing power as they claimed.
As noted by Law360, the complaint states GAW Miners and ZenMiners (registered in Connecticut and Texas respectively) paid off old customers using revenue from new customers in a Ponzi-like scheme.
The two companies also sold a myriad of other crypto investments: HashPoints, which could be redeemed for a cryptocurrency called PayCoin. PayCoin could be stored in wallets called HashStakers.
Plaintiffs alleged that all four — Hashlets, HashPoints, PayCoin, and HashStakers — were securities.
However, according to the jury’s verdict, plaintiffs failed to adequately prove that any were securities — including the tokenized shares Hashlets.
Apparently, jurors reasoned that Hashlets investors were in control of their assets the whole time and thus weren’t passive investments.
This was reportedly the first time a jury had been asked to determine whether a cryptocurrency was a security.
GAW Miners founder already went to prison
In December 2015, the SEC alleged that when GAW Miners co-founder Joshua Garza’s leased computing power to mine crypto, it amounted to the sale of equity in a Bitcoin mining operation.
The SEC said, “GAW Miners and ZenMiner did not own enough computing power for the mining it promised to conduct.”
Garza had already pleaded guilty to wire fraud and agreed to pay damages in that case. He was sentenced to 21 months in prison in 2017.
Because he was incarcerated and likely bankrupt, plaintiffs agreed in 2016 to drop Garza as a defendant. That left Stuart Fraser, who owned a 41% stake in GAW Miners, as the sole defendant.
Fraser denied he had any direct control over GAW Miners’ operation and cited his loss of $12 million in the fraud scheme as part of his defense.
“It’s pretty clear there was a fraud … But what kind of criminal mastermind has a scheme where he’s behind the scenes controlling everything and he loses $12 million?” said Fraser attorney Daniel Weiner (via Law360).
SEC still uses Howey for crypto
US regulators use a four-prong test to determine whether an offering is a security.
An asset passes the test if money was invested:
- into a common enterprise,
- with an expectation of profit,
- derived from the efforts of others.
These four criteria came to be known as the Howey Test due to a precedent set by a Supreme Court case, SEC v. W.J. Howey Company, in which an agricultural firm sold land to investors and then leased it back to grow citrus fruit.
The Howey Company did not register its offerings with the SEC. The case escalated to the Supreme Court by 1946.
Securities fall under the jurisdiction of the SEC. Issuers of securities must register with the watchdog and lodge regular financial statements, as well as other related documents.
Ripple is fighting to fail the test
Many of these SEC actions explain how cryptocurrencies pass the Howey Test and are unregistered securities.
In December 2020, the SEC filed charges in a Manhattan district court alleging that Ripple Labs had conducted a years-long unregistered securities sale with its XRP token.
SEC regulators also personally named Ripple Labs co-founder Christian Larsen and chief exec Bradley Garlinghouse as defendants.
They allege Larsen and Garlinghouse failed to release critical information related to Ripple Labs’ operations, creating information asymmetry that harmed investors.
Read more: [SEC lawsuit triggers worst XRP selloff on record]
In Ripple Labs’ initial legal response to the allegations, it accused the SEC of “picking winners and losers” and said that its actions against the company and XRP “created havoc in the market.”
Ripple Labs’ fight with the SEC is likely to have sweeping implications for future regulatory actions in the crypto sector. The lawsuit is ongoing and will likely last until mid-2022.
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Edit 14:06, Nov 4: Update anticipated end-date of XRP case in paragraph 29.