In a desperate bid to end what authorities see as an era of lawlessness in the cryptocurrency market, the Securities and Exchange Commission on Tuesday sued Coinbase, the largest crypto trading platform in the United States, claiming the company violated the law by not registering. As a broker.
The SEC, the country’s top securities regulator, filed the lawsuit a day after it accused Binance, the world’s largest cryptocurrency trading exchange, of mishandling customer funds and lying to American regulators and investors about its operations.
With these federal actions against major crypto companies, along with other lawsuits at the state level, regulators have sought to reshape the crypto sector by treating digital asset exchanges more like traditional financial institutions, while cracking down on individuals and companies they see as bad actors.
In a Tuesday filing with the SEC, Coinbase’s leaders detailed the ways they demonstrated they knew how to regulate the marketing and sale of digital assets in accordance with US laws, even when they failed to follow them.
“Coinbase places its interest in maximizing profits over the interests of investors and in complying with the legal and regulatory framework governing the securities markets created to protect investors and the US capital markets,” the filing said.
Coinbase in April 2021 saw the event as a milestone in crypto’s march into the mainstream. The company handled $830 billion worth of trades last year, with nearly nine million users making at least one trade per month.
The SEC said Coinbase made billions to facilitate the sale of crypto assets but lost significant protections for investors. The complaint, filed in federal court in Manhattan, claims the company operated as an unregistered exchange despite generally telling investors that some of the products traded on its platform could be considered securities.
Coinbase argued that its business model received tacit approval from the SEC when the agency approved its initial public offering. The company has said it is willing to work with the SEC, but does not agree with its position that all digital assets offered on its trading platform must be registered securities, requiring more stringent oversight.
The move is consistent with the SEC’s long-standing view that most crypto products are no different from stocks, bonds and other securities. That means entities that act as exchanges that provide a platform to trade and sell crypto products must be registered like any exchange or brokerage that facilitates stock or bond trading.
“You can’t just ignore them because you don’t like them or want to choose something different: the consequences for the investing public are huge,” said Gurbir S., director of the SEC’s Enforcement Division. Grewal, said in a statement.
Executives in the crypto industry, happy to defy the rules and operate outside the heavily regulated confines of the mainstream financial industry, often argue that digital assets are different and many of the rules for stocks don’t apply.
“The SEC’s reliance on an enforcement-only approach in the absence of clear rules for the digital asset industry harms America’s economic competitiveness,” Paul Grewal, Coinbase’s chief legal officer, said in a statement about the suit.
“The solution, not litigation, is legislation that allows fair rules of the road to be developed transparently and applied equitably,” added Mr. Grewal, who is not related to the SEC enforcement officer.
“The message here is that regulatory clarity already exists when it comes to exchanges and broker dealers,” said John Reed Stark, a former SEC enforcement attorney and regulatory consultant.
Adding to Coinbase’s legal woes, securities regulators in 10 states, including Alabama, California, Illinois and New Jersey, filed their own actions on Tuesday seeking to bar the company from selling unregistered securities to investors in their states.
State regulators said Coinbase must first register to offer those products in their states. Some states, such as New Jersey, have fined the company.
The SEC suit and actions by state regulators against Coinbase touched on a critical issue that many in the crypto industry said Congress needed to address: whether digital asset products are securities or something entirely different.
The test for determining whether a crypto product should be treated like a security derives from a 1946 Supreme Court case that led to what is known as the Howie test, the SEC said. SEC Chair Gary Gensler has often said that the standard is clear and no new rules are needed to determine whether a digital asset is safe. However, the industry begged to differ.
The SEC complaint took issue with Coinbase’s claims that it fully complied with applicable securities laws before offering new digital products for trading, dismissing them as “lip service.”
According to the 101-page complaint, “Coinbase has for years made crypto assets available for trading, which are investment contracts under Howie. Examination and sound principles of federal securities laws.
Coinbase’s long-anticipated suit comes as its executives and others in the crypto industry hope to change the narrative about digital assets. Coinbase’s Mr. Grewal testified before a House committee on Tuesday about the draft bill to regulate crypto. Coinbase said it welcomes the regulation and wants to cooperate with the SEC
The SEC lawsuit is the latest enforcement in the regulator’s multi-year crackdown on the crypto market, following the collapse of the FTX cryptocurrency exchange in November and criminal charges against its founder, Sam Bankman-Fried.
The lawsuit against Coinbase does not include an allegation of fraud or a request for a preliminary injunction against the company, like the complaint against Binance. Binance founder and chief executive Changpeng Zhao was also charged by the SEC on Monday. On Tuesday, it similarly did not charge Coinbase’s chief executive, Brian Armstrong.
The SEC took another step on Tuesday, distinguishing the cases against Binance from those against Coinbase. In a new filing, the agency asked the court to freeze assets associated with Binance’s US-based customers based outside the United States and to repatriate such assets to the United States, arguing that an immediate freeze was necessary. Open questions about defendants’ years of infringing conduct, disregard for the laws of the United States, evasion of regulatory oversight, various financial transfers, and custody and control of consumer assets.
In the filing, the SEC asked the court to cut off any access Binance and its senior leaders have to assets of U.S. customers. The filing contains a summary of bank account information related to Binance’s US business, which shows the company has multiple accounts with San Diego-based lender Axos Bank and an account with shuttered bank Silvergate.
Coinbase, unlike Binance, does not issue its own crypto tokens, and the company has argued that it follows strict rules regarding its operations as a publicly listed company.
The company petitioned the SEC for the new rules last summer and sued the agency in April for failing to act on its request.
A flurry of lawsuits against Coinbase and a crackdown on the crypto industry in general weighed on the company’s stock price. Shares of Coinbase have fallen nearly 20 percent in the past two days.