Following the Securities and Exchange Commission’s effort to stretch, bend and twist the law to grant itself authority to regulate cryptocurrencies has been like watching an exhausting video game. By the last level, the monster has grown so grotesque and ridiculous that you’re just waiting for the relief of seeing it explode so the comforting words “game over” can finally appear.
Unfortunately, it’s not a game for many innovative U.S. Financial Tech companies. The SEC has mobilized all its resources to carry out a policy against crypto companies that is not designed to protect investors from fraud or even to clarify what legal compliance means. It is practicing what professor J.W. Verret of George Mason University has called “enforcement by destruction,” trying to turn courts into execution chambers for an industry it never intended to regulate but to destroy.
It comes down to a bait-and-switch strategy by two successive SEC chairmen to claim that every digital asset, no matter how it is designed, is itself a “crypto asset security,” and that gives the agency full authority to require they be registered like stocks. Nothing in nearly a century of securities law provides the SEC such all-encompassing authority over an entire asset class. But the SEC’s strategy was never to prove this theory in court so much as to have a pretext to launch enforcement actions never meant to bring anyone into compliance.
Reading over the court dockets of SEC non-fraud enforcement actions against crypto companies, the malicious roadmap becomes clear. First, the agency has never issued a single regulatory guideline registering a digital asset or determining whether it will be a security. There are no forms, no instructions and no published rules for registration.
Companies that go to the SEC in good faith to ask for guidance have instead gotten subpoenaed and sued for failing to register despite having no idea how. It has been an exercise in gaslighting, as not one cryptocurrency transaction among billions has ever been registered by the SEC, nor do they ever intend to allow a registration to happen.
The SEC’s lawsuits seek such huge dollar figures in disgorgement and penalties at the start that companies often see no choice but to fold. The few who decide to fight have exposed how truly bad the SEC’s faith has become. Such has been the case for Ripple Labs. This California-based payments software company offers international settlement services using the XRP token as a bridge currency.
The SEC sued Ripple in December 2020, claiming that the XRP token itself was a security, which meant every offer and sale of XRP was an unregistered investment in the company, even on secondary markets between parties that had no knowledge or connection to Ripple.
It was a novel legal theory that twisted decades of jurisprudence on securities law. It was clearly designed to give the government enough leverage to force Ripple to close its doors. But in her July 2023, U.S. District Court Judge Analisa Torres firmly shot it down.
It took nearly three years and, according to Ripple CEO Brad Garlinghouse, over $100 million in legal costs to get clarity that the XRP token is not a security when offered and sold on public exchanges. Along the way, the SEC was castigated by a magistrate judge for dragging out the case with “unnecessarily complicated litigation tactics” that lacked a “faithful allegiance to the law.”
Torres found that only one set of $700 million in sales of XRP to institutional investors constituted securities that should have been registered. No fraud was alleged, and none of the investors had lost money or been harmed. However, instead of using the decision to lay out a registration framework for future companies to be compliant with this technicality, the SEC could only chafe at how it impeded its one and only objective: to destroy Ripple.
Recently, the SEC dropped all pretenses. It filed a proposed final judgment requiring Ripple to pay $2 billion in disgorgement and penalties for this non-fraud technicality. That is 300 percent of the value raised by the institutional sales of XRP. The SEC’s brief reads like a vengeful diatribe, with exhibits that include nearly 30 pages of tweets where retail holders of XRP — the people the agency is allegedly protecting — celebrated Torres’ ruling that the token is not a security.
As Verret noted, most final settlements in non-fraud cases in recent years, where a defendant simply failed to register, average less than 12 percent of the original penalties sought by the SEC. Not one of those settlements provided clarity to the markets about how crypto sales can be “compliant.” However, several companies were destroyed in the process.
What other goal could the SEC have with its absurd $2 billion demand other than to destroy Ripple?
It is encouraging that the courts have been knocking the SEC back in this and many other high-profile cases. However, not every defendant has the resources to fight. Enforcement by destruction wins by attrition more than merit, thanks to the political acquiescence of a government with no qualms with an SEC that actively seeks to destroy capital formation rather than facilitate it.
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