Coinbase, the largest cryptocurrency exchange in the US, announced on Wednesday that it had received a “Wells Notice” from the US Securities and Exchange Commission (SEC) regarding an unspecified portion of its digital assets, staking service, and wallet products.
This is just a recommendation for enforcement action, not a formal charge or lawsuit. Coinbase’s products and services continue to operate as usual, assured the publicly traded crypto company.
According to Coinbase, the SEC did not provide much information to respond to and declined to identify which assets on their platform may be securities. The SEC’s action has come as a surprise to Coinbase, as it provided multiple proposals to the SEC about registration, but they refused to respond.
Coinbase is confident in its business and believes rulemaking and legislation are better tools for defining the law for the crypto industry. However, they welcome the opportunity for clarity in court.
In reaction to the news, shares of Nasdaq-listed Coinbase (COIN) dropped about 13% to $67.20 in the after-trading hours. While still up more than 116% year-to-date, the coin was down over 84% from its all-time high (ATH) in April 2021.
The US SEC’s latest threat to sue publicly traded Coinbase has intensified regulatory pressure on the crypto sector. The SEC’s potential enforcement actions are related to various aspects of Coinbase’s business, including its spot market, as well as its Earn, Prime, and Wallet products that offer customers high yields.
In particular, the SEC is scrutinizing staking services like Coinbase Earn for not being registered. Recently, Kraken agreed to shut down its US crypto staking service and pay $30 million in penalties to settle SEC charges for failing to register the program.
The increased regulatory focus on the crypto industry comes in the wake of the FTX implosion late last year.
Coinbase’s Defense
In its announcement, Coinbase provided a detailed account of its attempt to reach out to the SEC to no effect.
The exchange stated that they tried to engage with the SEC regarding a potential resolution involving registering a portion of their business with the agency. And in response, the SEC asked them to propose two different registration models, which they did, but did not receive any feedback, said the exchange.
Despite meeting with the SEC more than 30 times over nine months, it said they did not receive any feedback and were doing all the talking. Then in January 2023, the SEC canceled a scheduled meeting and shifted back to an enforcement investigation.
Coinbase noted that the investigation is still in its early stages, and the SEC has not raised any specific concerns about a single asset on their platform. The Wells Notice is unusual since Coinbase’s staking and exchange services had largely remained unchanged since 2021, when the SEC reviewed their S-1 and allowed them to become a public company, noted Coinbase.
The company expressed concern about the lack of regulatory clarity for the cryptocurrency industry in the United States, calling The SEC’s approach to regulation enforcement-oriented rather than developing a clear regulatory framework.
Coinbase has attempted to engage with the SEC by proposing registration models and petitioning for rulemaking but has received little feedback or guidance.
The announcement also references a recent ruling in the Voyager case, in which a federal bankruptcy judge questioned the SEC’s inconsistent positions on cryptocurrencies and lack of guidance to the industry.
The announcement notes that conflicting statements from regulators, such as the recent disagreement between the SEC and CFTC on which agency should regulate different aspects of crypto, create further uncertainty and make it difficult for industry participants to understand how to comply with regulations.
Coinbase further argues that threatening enforcement actions against trusted public companies like itself without clear guidance or regulatory framework makes little sense and that the issue of regulating non-securities should be left to Congress to decide.
According to Coinbase, they do not list securities or offer products that are considered securities to their customers in the first place.
Coinbase has a strict process to review and analyze each digital asset before making it available on their exchange, it said, adding: this process includes assessing whether the asset could be considered a security and also takes into account regulatory compliance and information security aspects of the asset. As a result, over 90% of reviewed assets are ultimately rejected because they do not meet Coinbase’s standards.
Coinbase has also stated that their staking services are not considered securities under any legal standard, including the Howey test, which determines whether a product is an investment contract. Coinbase had presented its staking services to the SEC in 2019 and twice more in 2020 but did not receive any concerns from the SEC about its staking services until the recent investigation.
As for Coinbase Wallet, it is not an exchange, broker, or centralized platform but rather a technology, said the company on Wednesday. Coinbase believes that the misunderstanding of crypto products, assets, and services is an example of the need for comprehensive crypto regulation in the US that understands the technology.
The message from Coinbase is clear: they seek clear guidance from regulators on how to comply with the rules and are willing to register their business if given a clear path to do so. They believe that the current approach of the SEC, which is to regulate by enforcement only, is unfair and threatens the good actors in the crypto industry.
Coinbase asserts that they have always complied with the law and remain confident in the legality of its assets and services. They welcome a legal process to clarify and demonstrate that the SEC has not been fair or reasonable in its engagement with the crypto industry.
Despite these challenges, Coinbase is committed to advancing its mission of creating more economic freedom and opportunity around the world by building trusted products and services, said the exchange.
SEC Goes After Justin Sun, BTT, TRX, & Celebrities
Coinbase is not the only one targeted by the SEC. Earlier in the day on Wednesday, the agency announced charges against Justin Sun and three of his companies — Tron Foundation Limited, BitTorrent Foundation Ltd., and Rainberry Inc. (formerly BitTorrent) for violating securities laws.
The SEC alleges that Sun and his companies orchestrated a scheme to pay celebrities to promote TRX and BTT without disclosing their compensation while fraudulently manipulating the secondary market for TRX through extensive wash trading. The charges serve as a warning to investors about the risks associated with companies that do not commit to proper disclosure.
Besides Tron (TRX) and BitTorrent (BTT), the SEC charged eight celebrities for illegally promoting these crypto asset securities.
The eight celebrities charged in the complaint include actress Lindsay Lohan, social media personality Jake Paul, rappers Soulja Boy (DeAndre Cortez) and Lil Yachty (Miles Parks McCollum), Aliaune Thiam (Akon), Shaffer Smith (Ne-Yo), Michele Mason (Kendra Lust), and Austin Mahone.
With the exception of Soulja Boy and singer Austin Mahone, the celebrities agreed to pay a total of more than $400,000 in interest and penalties to settle the charges without admitting or denying the SEC’s findings.
According to the SEC’s complaint, filed in the US District Court for the Southern District of New York, Sun and his affiliated companies unlawfully offered and sold TRX and BTT as investments through unregistered “bounty programs.”
These programs incentivized participants to promote the tokens on social media, join and recruit others to Tron-affiliated Telegram and Discord channels, and create BitTorrent accounts in exchange for TRX and BTT distributions.
Additionally, the complaint alleges that Sun, along with BitTorrent Foundation and Rainberry, offered and sold BTT through unregistered monthly airdrops to investors, including those in the US, who purchased and held TRX in their wallets or on participating crypto exchanges.
SEC Chair Gary Gensler emphasized the importance of proper disclosure for companies operating in the crypto industry. “This case demonstrates again the high-risk investors face when crypto asset securities are offered and sold without proper disclosure,” said Gensler.
According to the SEC’s statement, Sun and his companies not only victimized US investors with their unregistered offers and sales, profiting in the millions, but they also orchestrated wash trading on an unregistered trading platform to create a false impression of TRX’s trading activity.
Allegedly, Sun directed his staff to conduct over 600,000 wash trades of TRX daily between two crypto asset trading platform accounts he owned, with a wash trading volume ranging from 4.5 million to 7.4 million TRX. As per the complaint, Sun sold TRX on the secondary market, pocketing $31 million in illegal proceeds from the unregistered sales of the token.
“Sun and others used an age-old playbook to mislead and harm investors by first offering securities without complying with registration and disclosure requirements and then manipulating the market for those very securities,” said Gurbir S. Grewal, the Director of the SEC’s Division of Enforcement. “While we’re neutral about the technologies at issue, we’re anything but neutral when it comes to investor protection,” he added.
In his response to the SEC’s charges, Sun took to Twitter early on Thursday to state that the regulatory framework for digital assets in the US is still in its “infancy” and needs further refinement. He further expressed his company’s willingness to work with governments and regulatory bodies worldwide to establish transparent guidelines for regulating the cryptocurrency industry.
Meanwhile, several tokens linked to Justin Sun, including TRX, HT, JST, and SUN, fell sharply. The $5.7 billion market cap token, TRX, dropped 7.6% in the past 24 hours to now trade at $0.06, down 73% from its ATH hit in 2018.
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