Legal Seminar, Denver, CO

071018 Discussion Draft

E. Coin Offerings and Consumer Protection. Coin or token offerings provide another choke point where fiat money enters the cryptocurrency environment. As noted above, FinCEN rules are likely applicable to issuers. But once you become an investor, can you sell to others without becoming a money transmitter? This is likely a matter of scale, but one can see leaks in the system emerging. There are also investor/consumer protection issues to be addressed after the recent run-up in value for Bitcoin piqued the interest of many who are seeking to profit. 1. Security or Commodity? The SEC’s Director, Division of Corporate Finance, provides some useful analysis of the ICO phenomenon. While Bitcoin, Ethereum, and certain other cryptocurrencies already in functioning networks do not merit securities regulation, new offerings of cryptocurrencies without an established network and usage patterns likely present securities regulation issues. William Hinman, Digital Asset Transactions: When Howey Met Gary (Plastic) (June 14, 2018), at https://www.sec.gov/news/speech/speech-hinman- 061418 . o A securities class action has been launched in California against Ripple by investors who lost money in the initial offerings of its XRP tokens. See Lily Katz, Ripple Hit With Class-Action Suit Over ‘Never Ending ICO’ BNA Securities Regulation & Law Report (May 14, 2018). o Tokens initially purchased for nearly $2.50 each dropped to less than $0.50. o While upward volatility trends incentivize investment, downward trends incentivize blame. 2. Badges of Fraud. But there is blame to go around. The SEC is cognizant of risks to the investor public, and it has engaged in several enforcement actions against those offering coins or tokens. A recent study revealed widespread fraud, with a review of 1450 offerings yielding over 18% with “red flags” such as false information about promoters and use cases, sometimes copied from other websites perpetrating the same kinds of fraud. Shane Shifflet & Coulter Jones, Buyer Beware: Hundreds of Bitcoin Wannabes Show Hallmarks of Fraud, W ALL S TREET J OURNAL ( May 17, 2018) at https://www.wsj.com/articles/buyer-beware- hundreds-of-bitcoin-wannabes-show-hallmarks-of-fraud- 1526573115?mod=searchresults&page=1&pos=5 3. Tax Issues. a. For tax purposes, the IRS considers cryptocurrency to be property, which thereby generates potential gain or loss whenever it is exchanged. See Notice 2014-21, 2014-16 IRB 938. b. Coinbase has informed its customers that it has turned over account information to the IRS, which is presumably interested in auditing return compliance levels by domestic users. Lily Katz and Lynnley Browning, ‘Take a Wild-Ass Guess': Crypto Confusion as Tax Deadline Nears , BNA D AILY T AX R EPORT (I NTERNATIONAL ) (April 13, 2018). c. For those who issue cryptocurrency, note that this is likely a taxable exchange or sale, which is quite unlike the issuance of stock or a partnership interest, which the Code specifically exempts from tax. See, e.g., IRC § 1032

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