Canada: ‘One-Two Punch' Against Crypto Industry: SEC Files Back-To-Back Complaints Against Binance And Coinbase
Technology, Media and Telecommunications Bulletin

On June 5 and 6, 2023, the U.S. Securities and Exchange Commission ("SEC") filed back-to-back actions against Binance and Coinbase, two of the largest cryptocurrency exchange platforms in the world,¹ in what the media has referred to as a "one-two punch" against the crypto industry generally.²

At their core, these complaints allege that Binance and Coinbase have offered securities market services including operating a broker-dealer, securities exchange, and clearing agency - without registering with the SEC. If the SEC actions are successful, they will define the law on cryptocurrency services to consider them as securities services that fall under the regulatory scope of the securities regulators. Further, these cases could have implications in Canada by emboldening regulators and clarifying the law regarding the classification of certain crypto assets as securities.

Background

These complaints against Binance and Coinbase continue the trend of the SEC seeking to bring cryptocurrency under its regulatory scope. Since 2019, the SEC has filed actions against several high-profile cryptocurrency companies including Kik Interactive and Ripple Labs, claiming that their products and services constitute 'securities' that should fall under the SEC's regulations³. The U.S. District Court for the Southern District of New York ruled against Kik Interactive and fined it $5 million USD on October 21, 2020,⁴ and the suit against Ripple Labs is ongoing as of June 2023.⁵

These efforts seem to have increased in recent months. Earlier this year, SEC charged Payward Ventures Inc. and Payward Trading Ltd. (known as "Kraken") for failing to register their "staking" services with the SEC. Kraken settled with the SEC for $30 million USD and agreed to cease offering or selling crypto assets through staking services.⁶

Complaint against Binance Entities

The SEC launched 13 charges against two Binance entities - Binance Holdings Ltd., which operates Binance.com, the world's largest cryptocurrency exchange, and Binance's US-based affiliate, BAM Trading Services Inc., which operates the exchange specifically for U.S. customers ("Binance US", collectively "Binance"), as well as Changpeng Zhao, Binance's founder.⁷

The SEC complaint alleges that the cryptocurrency products offered by Binance constitute "securities" under federal securities law and, as a result of such determination, Binance should have registered as an exchange, broker-dealer, and clearing agency. The complaint charges Binance with 1) failing to register as a national securities exchange, a broker-dealer, and clearing agency; and 2) completing unregistered securities offerings of Binance's cryptocurrency products (e.g., BNB, BUSD, Simple Earn, and BNB Vault), and its staking services. The complaint also brings the same charges against Zhao personally.

The complaint also alleges that Binance and Zhao used its international exchange (i.e., Binance.com) to bypass U.S. regulations. The SEC alleges that Binance.US did not operate arm's length from Zhao and Binance, and that they used their control to allow "high-value U.S. customers" to continue trading on the Binance.com platform while publicly claiming that U.S. customers were restricted from trading on that exchange. As Binance's chief compliance officer once bluntly admitted in a message to his colleague: "[w]e're operating as a fking unlicensed securities exchange in the USA bro [sic]." Further, the SEC alleges that Zhao and Binance exercised control over customers' assets to commingle or divert them and ultimately mislead investors.

Binance responded on the same day with a press release⁸ criticizing the SEC for its failure to "productively engage" and provide "much-needed clarity and guidance to the digital asset industry." It also criticized the SEC for opting for "enforcement and litigation" rather than consultation and expressed disapproval for "unilaterally labelling certain tokens and services as securities." Binance warned that the SEC complaints could undermine the status of the U.S. as "a global hub for financial innovation and leadership" and concluded the release by avowing to "defend this important technology from misguided lawsuits."

The story continues to develop rapidly. On June 8, Binance.US suspended deposits and warned that they could halt withdrawals as well.⁹ Following a hearing on Tuesday, Judge Amy Berman Jackson declined to grant the asset freeze order that the SEC requested, and instead ordered the two sides to negotiate with a Thursday deadline.¹⁰ At the hearing, the judge referred to the SEC's use of its enforcement powers to regulate cryptocurrency "inefficient and cumbersome."¹¹ The parties reached an agreement¹² on June 17 to avoid a full asset freeze while ensuring U.S. customer assets on the platform remain in the United States and are only accessible to Binance's U.S. employees.

Complaint against Coinbase

The SEC's complaint against Coinbase was largely similar to its complaint against Binance, targeting two operating entities: Coinbase Inc. ("Coinbase") and Coinbase Global Inc. ("CGI").¹³ The SEC alleges that Coinbase operated as an unregistered securities exchange, broker/dealer, and clearing agency, depriving investors of "signification protections" afforded by the SEC's disclosure requirements.

In addition, the SEC alleges that Coinbase offered unregistered securities through the staking program. Interestingly, when SEC laid the same charges against Kraken in February, Coinbase commented on this exact issue by conducting its ownHoweytest to argue that staking products should not be considered securities.¹⁴ The SEC responded by issuing a 'Wells Notice,' informing Coinbase of potential future action related to its staking services¹⁵ - following up with the June 6 complaint. Coinbase has criticized the SEC, which had cleared its prospectus in 2021, for its adversarial approach. Coinbase claims that its team met with the SEC "more than 30 times over nine months" to explore ways of registering parts of its business with the regulatory agency, but then the SEC unilaterally turned towards enforcement. Following the June 6 complaint, Coinbase, through its founder and CEO, also openly criticized the SEC for failing to present "a clear rule book" and welcomed the opportunity "to finally get some clarity around crypto rules."¹⁶

Implications for Canada

Unlike the SEC, Canadian regulators had taken a progressive approach to cryptocurrency regulation, establishing a registration regime specific to cryptocurrency exchanges. Regulators have worked with law firms and other relevant stakeholders to provide guidance on whether certain tokens should be considered securities or not on a flexible, case-by-case basis. For instance, regulators would review specific tokens and issue 'no action letters,' but also communicate the staff's position more informally when appropriate.

While some industry participants may challenge securities regulators' jurisdiction over cryptocurrency, such an approach has established some regulatory certainty. In this respect, Canadian regulators have charted their own course, independent of their U.S. counterparts. However, the SEC complaints against Binance and Coinbase may nevertheless have a significant impact on the Canadian cryptocurrency industry.

The complaints against giants of the industry may embolden Canadian securities regulators to take firmer stances. The Ontario Securities Commission's ("OSC") Investor Advisory Panel released its annual report on May 30, 2023, urging for strengthening oversight and enforcement in the cryptocurrency industry.¹⁷ Further, it was found on May 25, 2023 that the OSC had filed a broad investigation order against Binance.¹⁸ Canadian regulators could solidify their stances based on the decisions of the U.S. courts.

The cases could also clarify the threshold for categorizing certain cryptocurrency assets as "securities." The SEC argues in both complaints that staking services are securities, while Coinbase has officially disagreed with this analysis. Canadian regulators have not given a definitive answer to the question as to whether staking services should be considered securities, but the OSC has brought staking services under their regulatory scope by requiring filers to obtain the OSC's consent prior to offering staking services.¹⁹ Under this approach, regulators allowed companies such as Wealthsimple and Bitbuy to offer staking to their users in the fall 2022. At the same time, following the SEC action against Kraken and the collapse of FTX,²⁰ regulators put a pause on approvals to companies offering staking services. If the U.S. courts agree with the SEC, then Canadian regulators might have a stronger case to more firmly entrench the categorization of staking services as securities.

Even with the differences between Canadian and US cryptocurrency regulation, it will be essential to follow closely the developments with these key cases to understand better their implications to the Canadian cryptocurrency industry in a nuanced and informed manner.

Footnotes

1.According to CoinMarketCap, (as of June 11, 2023), Binance is the top exchange with $5.9 billion USD of trading volume within 24 hours, followed by Coinbase with $730 million USD.

2.https://www.coindesk.com/policy/2023/06/06/one-two-punch-finally-registers-sec-view-on-binance-coinbase-rest-of-crypto/.

3.Read more about Fasken's previous coverage on SEC's actions againstKik Interactive Inc. in 2019for conducting an unregistered securities offering and againstRipple Labs Inc.and its former and current CEOs for conducting an unregistered securities offering in 2020.

4.https://www.sec.gov/news/press-release/2020-262.

5.https://www.timelydisclosure.com/2021/01/27/causing-a-ripple-sec-files-lawsuit-alleging-unregistered-offering-of-xrp/.

6.https://www.sec.gov/news/press-release/2023-25.

7.A copy of the complaint against Binance is available here:https://www.sec.gov/files/litigation/complaints/2023/comp-pr2023-101.pdf.

8.https://www.binance.com/en/blog/ecosystem/sec-complaint-aims-to-unilaterally-define-crypto-market-structure-8707489117122437402.

9.https://www.reuters.com/article/fintech-crypto-binance-withdrawal-idCAKBN2XV03T#.

10.https://www.nytimes.com/2023/06/13/technology/binance-sec-cryptocurrency.html.

11.Ibid.

12.gov.uscourts.dcd.256060.71.0.pdf (courtlistener.com)

13.A copy of the complaint against Coinbase is available here:https://www.sec.gov/litigation/complaints/2023/comp-pr2023-102.pdf?utm_source=Sailthru&utm_medium=email&utm_campaign=The%20Protocol%20June%207%202023&utm_term=The%20Protocol.

14.https://www.coinbase.com/blog/coinbases-staking-services-are-not-securities-and-heres-why.

15.https://www.coinbase.com/blog/we-asked-the-sec-for-reasonable-crypto-rules-for-americans-we-got-legal?__cf_chl_f_tk=EIJ2WAHYMyfn4EOllCawus4dey4uvhwkz.YZF26aFGA-1686503614-0-gaNycGzNDBA.

16.https://twitter.com/brian_armstrong/status/1666129111025324035.

17.https://www.osc.ca/sites/default/files/2023-05/iap_20230529-annual-rpt.pdf

18.https://betakit.com/osc-advisory-panel-backs-stronger-regulation-of-crypto-platforms/.

19.https://www.osc.ca/sites/default/files/2023-04/pru_20230324_coinbase_en.pdf.

20.https://www.fasken.com/en/knowledge/2023/01/ftx-aftermath-from-a-canadian-securities-law-perspective.

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