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Home»NFT»SEC’s first NFT prosecution could set a troubling precedent
NFT

SEC’s first NFT prosecution could set a troubling precedent

2023-08-31No Comments5 Mins Read
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As cryptocurrencies have gone mainstream in recent years, the US Securities and Exchange Commission has not shied away from going after top tokens and top projects.

But what the US securities regulator did only Monday was to file suit against an NFT project, alleging that a collection of digital artworks for sale constituted a security.

The surprising ruling, imposed on the unknown company Impact Theory, left industry participants confused. Among a growing number of SEC investigations, settlements and indictments against companies like Coinbase and Binance, plus individual tokens, the charges stood out.

And the central question has become whether the allegations against the Los Angeles-based Impact Theory, worth about $30 million, were enough to set a precedent against NFTs more broadly as securities.

Read more: SEC accuses Impact Theory of offering unregistered securities at NFT launch

Impact Theory, without admitting or denying the SEC’s allegations, agreed to cough up $6.1 million and entered into a cease and desist order with the regulator about to freeze its assets.

SEC lawyers alleged that the company, which had done business with “hundreds” of investors, positioned and marketed NFTs as an investment path for its company — not offered as a simple one-off sale of digital collectibles.

An ‘investment in the business’

The SEC said in its legal filing that the company’s purchases of a number of NFTs, known as keys, were intended to “position the purchase of a Founder’s Key as an investment in the company, stating that investors would benefit from their purchases as Impact Theory was successful in its endeavors.”

See also  Animoca subsidiary builds AI and NFT tools for educators

The ensuing precedent outcome has major implications not only for individual, small NFT makers, but also for the large companies that facilitate their issuance and secondary sales, plus the NFT marketplaces that facilitate transactions.

In the ceasefire, government lawyers also targeted royalties, which were controversial in the industry, and tasked Impact Theory with adapting its smart contracts to

“Eliminate any royalty that Impact Theory would otherwise receive from future secondary market transactions.”

NFT trades have fallen sharply this year, with weekly trading volumes recently dropping to around $70 million from $1.8 billion in August 2021, according to data from Dune.

Adding the uncertainty surrounding what an NFT security entails to an already shaky market that has become much less lucrative than it used to be could further slow the market, industry participants told Blockworks.

NFT powerhouses, including the Magic Eden marketplace, have been paying attention.

Joe Doll, Magic Eden’s general counsel, said in a statement that the “biggest takeaway” from the Impact Theory case is that the “regulatory framework governing NFTs is being developed in real time as the industry watches and waits for clarity.” ”

“Now more than ever, it is critical that the NFT creators seek the advice of the experienced securities advisor familiar with crypto to ensure their project follows best practices,” said Doll.

The SEC’s crypto priorities

Brian Frye, a professor at the University of Kentucky College of Law and an expert on NFT regulation and crypto copyright issues, told Blockworks that the settlement appears to be overdue — not specifically for Impact Theory, but for the SEC to NFT collection considers as a security.

See also  OpenSea attracts 88% of Polygon's NFT trade in the past 3 months

“There is no real reason why NFTs should fall outside the SEC’s regulatory authority, especially given how they are used in practice…and it seems to me that if you look at the economic realities of most NFT projects, the economic reality is that it is selling a security.”

That’s because – as is very clearly and explicitly demonstrated in this particular case – the structure of the NFT claims that ‘when you buy one of these NFTs, you are essentially buying a security interest in the company, and your benefit will be in the primarily your ability to resell the NFT to someone else for a profit.

While on the surface it may be a grim outcome for NFT investors and builders, the settlement “strangely enough” as a “regulatory moment” may be able to “actually drive positive change,” said Akash Mahendra, director of the Haven1 Foundation. and portfolio manager at Yield App.

Noting that the NFT market fell to its lowest level in two years in August, Mahendra said the “unprecedented action against an NFT company” could potentially “inject much-needed accountability into the NFT ecosystem.”

“Falling under SEC scrutiny was not entirely unexpected given the similarity between NFT ads and traditional investment contracts,” he told Blockworks. “The assurances of continued rock bottom prices and unwavering support from developers have raised regulator eyebrows – especially as they reflect the practices we see in the world of traditional securities.”

Where the digital collectible cards might fall comes down to the SEC’s interest in terms of the vast world of crypto-related prosecutions, according to Frye.

See also  Mercedes-Benz launches its third NFT collection in seven chapters

“Is this the sort of thing the SEC seems to want to regulate?” he said. “What matters is what the SEC thinks about it in its regulatory landscape. The SEC still hasn’t articulated coherently what its regulatory objectives are, and I think that’s a problem. The SEC, as a regulator, should explain what it is trying to accomplish. I don’t think it’s asking too much.”

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