What You Need to Know: Understanding the SEC’s New Security Token Framework

What You Need to Know: Understanding the SEC’s New Security Token Framework

The U.S. Securities and Exchange Commission recently published a framework which issuers and investors can use to determine whether digital assets are securities. Let’s take a look at the details.

Big news came out just a few days ago. After a long while, the SEC has finally put out some guidelines on how to know if digital assets are securities. Most of it is written in legal lingo, but let’s bring it down to everyday, common language so you can understand it easier.

Right off the bat, the SEC clarifies that the framework is “not intended to be an exhaustive overview of the law, but rather, an analytical tool to help market participants assess whether the federal securities laws apply to the offer, sale, or resale of a particular digital asset.”

Still, as you might expect, determining whether or not a token is a security is dependent on the Howey Test.

Understanding the Howey Test

The fundamental basis of knowing whether or not a digital asset is a security is based on the Howey Test. The following criteria are most important, according to the guidelines put out.

  • To be a security token, there must as exist a “common enterprise” underpinning the investment contract.
  • It must require an investment of money.
  • There must be an expectation of profits “derived from the efforts of others.”

Much of the profit-sharing criteria relies on there being an active participant. An active participant, legally speaking, is the individual or company responsible for the “development, improvement, operation, or promotion of the network.” These responsibilities must be done by the active participant, “not by an unaffiliated, dispersed community of network uses,” reads the guidelines.

Therefore, security token holders should expect the active participant to promote the interests and value of the token itself.

What is NOT a Security

The SEC also put out some information to better determine when a digital asset is not a security token. If a digital asset meets one or more of these criteria, the chance of it failing the Howey Test is much higher.

The criteria mentioned by the SEC include:

  • If the distributed ledger network is fully developed and operational.
  • If the token meets the needs of users rather than speculative value.
  • If the token can immediately be used for its intended functionality.
  • If the token has a limit to its increase in value.
  • If the rise in the token’s value is incidental and secondary to its function.
  • If the token is integral to a platform or secondary market.
  • The token can be used to make purchases or be used as a substitute for currency.

The main criteria for a token not being a security rests on it being not purely speculative.

The SEC has been proactive in bringing charges and fines to those who have failed to create tokens without any use value. However, with these guidelines, the SEC is one step closer to establishing a consistent framework which all security token investors and issuers can follow.

Does the SEC’s new guidelines clarify things for you? Is anything still unclear? Let us know your thoughts below.