Cross-border payments firm Ripple has claimed it won a victory in its long-running legal battle with the U.S. Securities and Exchange Commission that could help determine if cryptocurrencies are or are not securities.
The question is key to the use of crypto as a payments currency both because it is far harder to issue digital assets if they must follow securities regulations and because paying with securities — even to buy a cup of coffee — triggers a capital gains reporting requirement with the IRS.
See also: When It Comes to Accepting Crypto in Payment, Taxes Are Very Taxing
The SEC in December 2020 sued Ripple Labs and — crucially — its two top executives for allegedly selling unregistered securities in the form of the XRP tokens its founders created in 2012, demanding $1.3 billion in restitution. That included hundreds of millions of dollars from CEO Brad Garlinghouse and Executive Chairman Chris Larsen, ensuring that the company would be the first not to settle such charges, which industry insiders and advocates have called regulation by enforcement.
The SEC has alleged “that Larsen and Garlinghouse were objectively reckless in believing that XRP was not a security, and that Ripple was on ‘fair notice’ that XRP was a security,” U.S. Magistrate Judge Sarah Netburn wrote on July 12 in ordering the agency to turn over the documents.
Read more: Congress Could Challenge Control SEC Seeks With Ripple Suit
While the case is unlikely to go to trial this year, the key at present is that Ripple has finally gotten its hands on internal agency deliberations about a speech the SEC’s then-director of the division of corporate finance, William Hinman, gave in 2018 in which he argued that the No. 2 cryptocurrency Ethereum had morphed from a security into a non-security. That is a position the SEC Commissioners never formally endorsed at the time, and that current SEC Chairman Gary Gensler has said applies only to bitcoin.
Over 18 months and 6 court orders later, we finally have the Hinman docs (internal SEC emails and drafts of his infamous 2018 speech). While they remain confidential for now (at the SEC’s insistence), I can say that it was well worth the fight to get them.
— Stuart Alderoty (@s_alderoty) October 20, 2022
Ripple General Counsel Stuart Alderoty tweeted the news Thursday night (Oct. 20), saying that while they cannot release the documents publicly, “it was well worth the fight to get them.”
The SEC had argued that its staff’s internal deliberations on legal issues should be privileged, while Ripple said it needed to know what they were thinking leading up to the Hinman speech.
“The SEC wants you to think that it cares about disclosure, transparency and clarity,” Garlinghouse added on Twitter. “Don’t believe them. When the truth eventually comes out, the shamefulness of their behavior here will shock you.”
The news came as Ripple celebrated its 10th anniversary.
Investment Questions
The “so what” is that Hinman outlined how and why Ethereum had turned into a non-security — logic Ripple says applies just as much to the XRP it and its executives sold in what the SEC has said amounts to a now-nine-year ongoing illegal securities sale. After the lawsuit, a number of top U.S. exchanges suspended XRP listings and potential U.S. bank customers backed off.
One of Ripple’s products involves banks transferring funds across borders in real time by purchasing XRP on the open market and transferring it to a partner that immediately resells it, avoiding price volatility problems.
A number of bills before Congress aiming to create a regulatory framework for digital assets that the industry has long said is vital to U.S. crypto leadership — notably the Responsible Financial Innovation Act and the Digital Commodities Consumer Protection Act — seek to define whether and when cryptocurrencies are securities.
See also: Hopes for Crypto Regulations Fade as Midterm Elections Approach
One key issue is that the four-part definition of a security under the law defines it as “an investment of money in a common enterprise with the expectation of profit to be derived from the efforts of others.”
In an interview on Coinbase TV in September, Alderoty said that a major flaw in the SEC’s argument is that it argued that Ripple’s sale of XRP did not constitute a contract for investment, as it made no promise and expressed no intention of helping them make a profit.
“What the SEC is suggesting is that a common interest is a substitute for a common enterprise and it’s not,” Alderoty said.
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