Is Ethereum a security?

Last updated 27 days ago

Answer

In the US, the SEC has not issued a formal ruling, but recent comments suggest that they do not believe Ether is a security. Other jurisdictions have not made this distinction clear.

Explanation

Note: this question answers whether Ether fits the legal definition of a security.

In the US, the SEC uses the Howey test to determine whether something can be legally considered a security. The test comes from the Supreme Court ruling in 1946 for SEC v. W.J. Howey Co. It stipulates four criteria:

  • Requires investment of money (fiat currency)

  • Money invested with expectation of profit

  • Invested money goes toward a common enterprise

  • Profit is generated by the efforts of a promoter or third party

Ether easily fits the first two criteria. People buy Ether with fiat currency, and many do so with the expectation of profit. However, the second two criteria are more difficult to prove.

First, money used to purchase Ether does not necessarily go toward a common enterprise. In its current form, purchased Ether only permits usage of the network, not ownership to an enterprise. This condition may change under Proof-of-Stake given that Ether offers people the ability to earn returns while securing the network. Even so, this feature does not fit cleanly into the traditional definition of a common enterprise.

Second, Ethereum does not generate profit, nor does it rely on the efforts of a promoter or third party. Ethereum is a network, not a corporation, so it does not produce identifiable profits beyond the value appreciation of Ether. The value of Ether also originates from open source development. While Vitalik Buterin and the Ethereum Foundation contribute to Ethereum's development, so do many unaffiliated entities and individuals. As such, it is difficult to argue that Ether generates a profit based on efforts of a third party.

While the SEC has not formally ruled on the legal status of Ether, comments from regulators in 2018 suggest that they see a compelling case to argue against classifying Ether as a security.

Quotes from regulators

"And putting aside the fundraising that accompanied the creation of Ether, based on my understanding of the present state of Ether, the Ethereum network and its decentralized structure, current offers and sales of Ether are not securities transactions. ... Over time, there may be other sufficiently decentralized networks and systems where regulating the tokens or coins that function on them as securities may not be required. And of course there will continue to be systems that rely on central actors whose efforts are a key to the success of the enterprise. In those cases, application of the securities laws protects the investors who purchase the tokens or coins."

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