Coinbase, America’s Largest Crypto Exchange, Faces Potential SEC Investigation

Cryptocurrency has an SEC problem – and it just got worse.

The Biden administration takes a more hands-on approach to the highly volatile, little understood, and barely regulated cryptocurrency industry. Cryptocurrencies are decentralized digital currencies secured by blockchain technology. Bitcoin, ethereum, and other cryptocurrencies have become almost as accessible as government-issued currencies in recent years, but the government offers them little consumer protection.

The Securities and Exchange Commission (SEC) – led by Gary Gensler, who taught a cryptocurrency course at MIT – is trying to argue that it can and will regulate all cryptocurrency investment programs that it decides to come under its jurisdiction. The relative novelty and rapid expansion of the cryptocurrency industry has placed it in a regulatory gray area. The Internal Revenue Service (IRS) classifies crypto as property. The Commodity Futures Trading Commission (CFTC) views crypto as a commodity. And the SEC said digital assets “can be securities, depending on the facts and circumstances.” A security is a tradable financial asset, such as stocks and bonds, that is governed by several laws designed to prevent fraud and protect investors.

The SEC appears to have decided that an upcoming offering from Coinbase, the largest cryptocurrency exchange in the United States, meets its definition of a security. And it shows that it will step in and regulate it accordingly – and, by extension, regulate the rest of the crypto industry in a more assertive way.

Cryptocurrency exchanges allow people to buy and sell crypto. Coinbase is one of the largest in the world and recently went public. He planned to launch a program called Lend, which would allow investors to let others borrow a form of crypto called USDC, a “stablecoin” whose value is tied to the value of the US dollar (one USDC is always supposed to equal to and be exchanged for the value of one US dollar). In return, lenders would receive 4% interest on the loan, a much higher rate than traditional banks currently offer on their savings accounts. This could have made the Coinbase Lend offer very attractive to consumers who otherwise would not have risked investing in crypto.

This is where the SEC came in, according to Coinbase. The company announced on Wednesday (or late Tuesday, if you have a Twitter feed from CEO Brian Armstrong) that the SEC threatened to sue the company if it launched Lend, but that the agency would not tell Coinbase why it viewed Lend as security, except that it was doing so “through the lens of decades of business of the Supreme Court. These cases, unofficially called Howey and Dreams, are the prism through which every potential security is viewed, including cryptographic services. Coinbase said it wanted formal advice from the SEC on how it was using these cases to determine if the loan was a security, but the SEC would not provide it.

The SEC has yet to officially comment, although some people believe this tweet is a response.

The people behind Coinbase may be (or at least claim to be) ignorant, but the SEC almost certainly knows what they’re doing here: asserting regulatory control over the world of cryptocurrency banking and finance. And he does so with a pugnacity that is not typical of the agency, according to former anonymous SEC officials who spoke to Bloomberg.

“The announcement that the SEC is investigating Coinbase’s lending program is in line with the continued aggression by regulators on crypto,” George Monaghan, analyst at market intelligence firm GlobalData, told Recode.

As the New York Times recently explained, cryptocurrency is taking hold in the banking industry, offering services that are typically reserved for traditional banks, whose services are backed by government-issued currencies (the dollar, for example) and have operated under consumer protection laws and regulations that date back decades. For example, some crypto companies are now offering interest-bearing crypto accounts, debit cards, and credit cards with cryptocurrency rewards.

Senator Elizabeth Warren called these “shadow banks,” noting that they are not federally insured and may be more prone to hacks and fraud than traditional banks. She wrote to Gensler about her concerns and, in her August 5 response, the SEC chairman agreed that “investors using these platforms are not sufficiently protected.” He also said there were certain activities the SEC can regulate, and that he believed lawmakers should prioritize legislation that dealt with crypto trading and lending.

The SEC has already shown interest in cracking down on crypto. It launched a crypto regulatory initiative in 2018, which became a stand-alone office within the agency last December. And he recently accused another crypto lending platform, BitConnect, of $ 2 billion of fraud for exploiting what the Justice Department called a “textbook Ponzi scheme.” Another crypto company, BlockFi, which offers high-interest loans and deposit accounts backed by crypto and credit card with a crypto rewards program, has been the subject of investigations by several security regulators in the United States. state level.

But Coinbase is bigger and more prominent than these companies. GlobalData’s Monaghan did not expect the fallout to be significant for Coinbase itself, as the lending program was not yet active. But the SEC’s interest in Coinbase is a sign for every crypto-finance company that there are still rules to follow and they should expect consequences if they don’t.

These rules could be tightened up in the near future as the Biden administration and lawmakers strive to close the regulatory loopholes that cryptocurrency falls into. Biden’s proposed budget for 2022 included crypto reporting requirements, the IRS is cracking down, and crypto regulations have even become a temporary sticking point in the passage of the infrastructure bill. Add to this – or perhaps exacerbate – the concern about how cryptocurrency can be used to facilitate criminal activity; Ransomware attacks often require payment in bitcoin due to the difficulty in tracking those payments.

Crypto regulations are coming. The question now is whether the slow process of making rules and passing laws will be able to keep up with the rapidly changing world of cryptocurrency.