The SEC Blockchain Safe Harbor Proposal

Bruce Fenton

SEC Commissioner Hester Pierce has proposed SEC Rule 195, a safe harbor for token projects looking to raise money.

The proposal essentially says that blockchain startups would have a safe harbor period of three years to get a network sufficiently decentralized. At this point the token would no longer be considered a security.

What the proposal does and does not do:

  • This is a proposal, not a new law and not new guidance, it may not become part of US law or SEC regulations
  • The proposal would not change the offering process for securities — if you are offering securities you would still need to comply with US law, meaning you need to either be registered or exempt from registration
  • The proposal doesn’t cover securities that will not be decentralized — meaning securities tokens, digital securities or any other blockchain based digital asset which represented equity, an LP interest or an investment contract or shares of a common enterprise — it’s only for new protocols

Commissioner Pierce and anyone at the SEC looking to reduce regulations should be commended.

That said, there are some challenges with this proposal.

  • It’s rife for abuse — we had an entire generation of companies in 2017 try to game the system by pretending to be “utilities” instead of securities- if this became an official regulation we could see another ICO-like wave of junk trying to avoid being a security — companies would raise money and focus entirely on the three year clock, rather than delivering value to investors — it seems antithetical to good investing
  • The idea that everything can or should be decentralized or that this is something capital markets should strive for is based on a faulty premise — if a project wants to be truly decentralized they should do so without a fundraise or premine. Decentralized projects doing well are the exception rather than the rule. Don’t encourage decentralization for projects that raise funds. If you raise money you should be responsible to investors and build something with long term value.
  • There’s little to no evidence that “decentralization” means tokens will be good or have value. There is a lot of evidence they will lose value and be replaced by actually decentralized networks like Bitcoin. By taking funding a project already has a degree of centralization that Bitcoin doesn’t. This is fine and should be thier freedom, but I’m puzzled why the SEC would focus on non securities when securities are where its at.
  • Decentralized tokens / trying to avoid Howey to avoid being considered a security, by nature, strip out all the useful economic terms anyone would want: equity, debt, profit sharing etc. all these actually useful terms would make a token a security and the safe harbor wouldn’t apply.
  • This only applies to startups wanting to launch a new network — who the heck wants to do that? Do we really need more blockchains? I am ok for more chains and more experimentation but these are very likely to fail and attract low quality offerings — imho a focus would be much better placed on equity or other traditional securities being tokenized
  • Most decentralized tokens therefor are destined to be poor investments — gift cards to a store no one wants to shop at

I think this proposal is a distraction from the bigger issues. We shouldn’t be trying to avoid being securities, we should embrace it. Securities are great and any investment that tries to strip out terms to avoid the 33 Act definition is extremely likely to fail.

Instead of working to “avoid being considered a security” we should focus on having more securities. We shouldn’t worry about decentralization because it doesn’t make much sense and try to make actual existing securities like equity easier to issue and move.

I support this because it is an effort to reduce regulations and believe its well intentioned. I don’t think it is workable or will pass and overall seems to be a misguided, while well intentioned, effort.

Rather than focusing on trying to help the next ICO become a Ripple or Tezos, we should be focusing on helping to tokenize the next Apple.

There are many other areas we can work on to achieve this. The focus on reducing the burdens of accreditation and AML / KYC regs would probably have the most impact on our markets.

I don’t think this will become law but if it does it will certainly be interesting.

Digital securities have the potential to change the world, it will be fun to see what happens next.