Weekly Focus

• Congress Circulates Draft Legislations Calling For a “Digital Dollar” Payment System
• CFTC Issues a Final Interpretive Guidance on Actual Delivery of Digital Assets
• Digital Dollar Foundation Adds Several Former Government Officials to its Board
• DHS and Several States Deem Certain Blockchain Managers as Essential
• CFTC issues an Advisory Warning of Increased Fraudulent Schemes During COVID-19
• SEC Obtains Injunctive Relief Against Telegram, Telegram Appeals
• SEC Charges Former State Senator with Fraudulent Digital Asset Offering
• KIK and SEC Seek Summary Judgement in SEC v. Kik Interactive Inc.
• IOSCO Issues its Public Report on Global Stablecoin Initiatives

US Developments

US Federal Regulatory Developments

Congress Circulates Draft Legislations Calling For a “Digital Dollar” Payment System

On or around March 23, 2020, members of the U.S. House of Representatives circulated a draft bill requiring the Internal Revenue Service to make monthly payments to individuals as part of a proposed broad stimulus relief package to address the ongoing Coronavirus pandemic. To facilitate payments, the bill would have required any Federal Reserve bank member to maintain a “digital dollar wallet” with the Federal Reserve on behalf of any person to store “digital dollars that may be tied to a digital or physical identity.” These banks would be required to maintain, on behalf of qualified individuals, a “pass-through digital wallet,” which the bill defines as “a digital wallet or account, maintained by a member bank on behalf of a qualified individual, where such qualified individual is entitled to a pro rata share of a pooled reserve balance that the member bank maintains at any Federal Reserve bank.”

Although the concept of a new digital-dollar-based payment system did not make the final legislation passed in the Senate, as the House of Representatives removed all references to the digital dollar concept in the updated version of the bill introduced in Congress, the concept of “digital dollar” appears to have gained some traction  as it has received support from several members of Congress.  Congresswoman Maxine Waters, Chairwoman of the House Committee on Financial Services, proposed related legislation that retained the digital dollar wallet concept. Similarly, Senator Sherrod Brown also proposed a separate bill in the Senate proposing a “FedAccount” payment system nearly identical to the concept discussed in the various bills.

Notably, none of these proposed legislations, in their current form, contemplate the use of a blockchain technology.

CFTC Issues a Final Interpretive Guidance on Actual Delivery of Digital Assets

On March 24, 2020, the Commissioners of the U.S. Commodity Futures Trading Commission (the “CFTC”), in a unanimous vote, provided interpretive guidance on the “actual delivery” exception as it relates to digital assets and retail commodity transactions. Under the Commodity Exchange Act (“CEA”), retail commodity transactions may be subject to certain requirements pertaining to broker registration and on-exchange trading “as if” they are futures contracts. The CEA provides an exception for contracts that result, within 28 days, in “actual delivery.” The interpretive guidance clarifies that, when conducting the actual delivery analysis in the context of virtual currencies, the primary focus should be on whether the customer has secured possession and control over, and ability to use, the entire commodity (regardless of whether it was purchased through margin or other arrangements) within 28 days and whether the offeror and counterparty seller (including certain of their affiliates) retain any interests (including legal rights) or control over the commodity after the 28-day period expires.

Please click here to read the full guidance.

Digital Dollar Foundation Adds Several Former Government Officials to its Board

The Digital Dollar Foundation, a foundation that is chaired by former CFTC Chair Christopher Giancarlo, announced 24 individuals who joined the Digital Dollar Project’s advisory board. In addition to other stakeholders, the board is comprised of various current and former government officials, including former officials from the CFTC, the Department of Treasury, the World Economic Forum, and President Donald Trump’s advisory team. The foundation, in partnership with Accenture, aims to promote and support the discussion and development of a United States Central Bank Digital Currency. The foundation plans to release a white paper on its proposed plans and designs in the second quarter of 2020.

Please click here for a full list of the members of the advisory board.

DHS and Several States Deem Certain Blockchain Managers as Essential

The Cybersecurity and Infrastructure Security Agency (CISA), a branch of the Department of Homeland Security (DHS), recently designated managers of agriculture and food-related blockchain technology as essential members who must continue to work during the coronavirus pandemic. The designation follows President Donald Trump’s Coronavirus Guidelines for America, which, among other things, noted that persons who “work in a critical infrastructure industry,” as designated by DHS, have a “special responsibility” to continue to work their normal work schedules. In response to this guidance and various relevant regulatory authorities, CISA created an advisory list of “Essential Critical Infrastructure Workers” to help guide states in making such determinations. The list includes “Employees and firms supporting food, feed, and beverage distribution, “including warehouse workers, vendor-managed inventory controllers and blockchain managers.”

To date, following CISA’s lead, each of the states of California, Delaware, Indiana, Louisiana, Michigan, Massachusetts, Ohio, and Washington has designated blockchain managers as essential workers.

Please click here for the full advisory guidance.

CFTC issues an Advisory Warning of Increased Fraudulent Schemes During COVID-19

In light of recent market turbulence and historical trends of investor flight to certain assets (such as gold, digital assets, and foreign currencies) to hedge against market risk, the CFTC warned investors to be vigilant against fraudsters who routinely use major events, such as COVID-19, as an opportunity to manipulate and con investors out of their investments. The release encourages investors to be mindful of their “mental blind spots” and biases (such as confirmation bias, hot hand bias, and sunk cost bias). It also identifies common fraudulent tactics to guard against, including the promise of oversized returns, a need to act with urgency, a prominent display of customer reviews and testimonials, a promise of reciprocity, and other fraudulent schemes.

Please click here for the full release.

Litigation Developments

SEC Obtains Injunctive Relief Against Telegram, Telegram Appeals

On March 24, 2020, the SEC was granted a preliminary injunction in the U.S. District Court for the Southern District of New York, barring Telegram Group Inc. and TON Issuer Inc. (collectively, “Telegram”) from distributing its Grams tokens, and Telegram appealed to the United States Court of Appeals for the Second Circuit. In granting the injunction order, Judge Kevin Castel found “that the SEC has shown substantial likelihood of success that” Telegram engaged in an unregistered securities offering when it sold nearly $2 billion worth of Grams tokens to investors. The court, among other things, appeared to focus on the “economic reality” part of the Howey analysis in reaching its conclusion that the SEC has a substantial likelihood of success of showing that “the contracts and understandings at issue” and the sale was part of a larger scheme by Telegram to distribute these tokens in the secondary market (i.e., treating the investors as equivalent to underwriters of an offering). The Grams tokens have not been released to purchasers to date as the Telegram Open Network (TON) blockchain has not been launched yet.

As discussed in our previous posts, the latest ruling is part of Telegram’s battle with the SEC over the offering of its Grams tokens. The SEC originally filed a complaint against Telegram alleging, among other things, that Telegram violated Section 5 of the Securities Act of 1933 because (1) the Grams tokens are securities, and (2) Telegram sold Grams through purchase agreements, without first filing a registration statement with the SEC and no exemption from Section 5’s registration requirement applied. The SEC also alleged that the requisite analysis under the relevant jurisprudential tests to determine if Grams are securities should take place at the time the purchase agreements were entered into, and not at the time of distribution. Telegram claims that its agreement to sell the Grams is exempted from registration requirements as a lawful private offering.

Click here for the court’s Opinion and Order. Click here (Jan 2020), here, here, and here for prior coverage of the SEC Telegram suit in the Virtual Currency in Review blog.

SEC Charges Former State Senator with Fraudulent Digital Asset Offering

On March 20, 2020, the SEC sought and obtained an emergency asset freeze and other injunctive relief against a former state senator from Washington and two of his associates who allegedly scammed U.S. and foreign investors. According to the SEC’s complaint, defendants promoted the unregistered sale of “Meta 1 Coin.” In connection with this offering, defendants allegedly claimed the coin was backed with $2 billion worth of gold and $1 billion worth of art collections, the coin was risk-free, and could provide over 250,000% return, among other misrepresentations. The defendants proceeded to misappropriate the proceeds from the offering, which totaled to more than $4.3 million from more than 150 investors. The defendants were charged with fraud and violations of federal securities registration laws.

Please click here for the full complaint.

KIK and SEC Seek Summary Judgement in SEC v. Kik Interactive Inc. 

In the ongoing SEC v. Kik Interactive Inc. litigation, both Canadian messaging company Kik Interactive Inc. (“Kik”) and the SEC have filed summary judgment motions asking the judge to rule in their favor over Kik’s ICO that raised over $100 million in 2017. Summary judgment permits a court to decide a case without having a trial because a party demonstrates that there are no genuine issues of material fact and one party is entitled to judgment as a matter of law.

Kik argues that the Howey test is not met in this case because there is no common enterprise between the purchasers and Kik as it did not owe any ongoing contractual obligations to the token purchasers and the purchasers assumed full control of their token, it did not create an expectation of profits from the managerial efforts of others as it promoted use and consumption of the token as a “medium of exchange,” and it conducted public offering on reliance of Rule 506(c) of Regulation D. By contrast, the SEC argues, among other things, that Kik made an unregistered offer and sale of securities when it obtained an investment of money from investors, investors invested in a common enterprise, and the investors reasonably expected profits derived from Kik’s entrepreneurial and managerial efforts. The SEC also asserted that Kik did not comply with Rule 506(c) and has thus engaged in an unlawful public distribution of securities.

Please click here and here for KIK’s and SEC’s summary judgment briefs, respectively. Please also click here, here, here, here, and here for prior coverage of the KIK suit in the Virtual Currency in Review blog.

International Developments

IOSCO Issues its Public Report on Global Stablecoin Initiatives

The International Organization of Securities Commissions (IOSCO) provided a report on the impact of global stablecoin issuances on regulatory activities of securities market regulators.

The report uses a hypothetical global stablecoin case study to provide an analysis of how it would impact various securities regulations.

The report describes its hypothetical global stablecoin as “a stablecoin which could act as a global currency and potential financial infrastructure used for domestic and cross-border payments, that uses a reserve fund and intermediaries as a means to achieve a stable price.” According to the report, the hypothetical company would issue these tokens to be used as a means of exchange on its platform, other third-parties could access the platform and offer goods and services on the platform alongside the company, the coin would be backed by a reserve fund at various global financial institutions and managed by a governance board, its value will track the assets in the reserve fund, and the company will run a permissioned blockchain with a consensus mechanism.

According to the report, this type of hypothetical stablecoin could raise various regulatory issues, which may be treated differently based on the controlling jurisdiction and applicable laws. For example, it notes that a stablecoin may amount to a banking, payment service, or “another type of financial infrastructure service,” implicating relevant regulations. In addition, the operation, managing, and structuring of the reserve fund and the creation/distribution/redemption of the coin could raise various regulatory issues applicable to money market funds, exchange-traded funds, crypto-asset trading platforms, and other securities investment products.

The commission also highlights that it has established a “Stablecoin Working Group” within its Fintech Network to “evaluate global stablecoin proposals” from securities’ regulators perspectives.

Please click here to read the report.

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