Is Your Blockchain Token a Security? Coinbase Leads Legal Framework Launch

Though a black-and-white issues for many enthusiasts, from a legal perspective, innovation with cryptocurrencies and blockchains remains in the regulatory gray.

That the technology – and its innovators – still face a risk when seeking to launch solutions in the market is front and center in a new legal framework released today.

Led by blockchain startup Coinbase, in collaboration with Coin Center, Consensys and Union Square Ventures, the 27-page framework, goes so far as to provide users with a “decision matrix” that those involved say can help mitigate design flaws that could have real-world legal consequences.

Reuben Bramanathan, associate counsel at Coinbase, said that while the US Securities and Exchange Commission (SEC) (and its counterparts globally) have been largely silent on the issue, there are likely to be roadblocks ahead given the lack of public education on concepts such as distributed applications and autonomous organizations.

Bramanathan told CoinDesk:

“This is most useful for developers of new tokens. Certainly, most developers are aware of the risks and it’s only going to get bigger as the space grows.”

In a blog post accompanying the release, Coin Center echoed a similar sentiment, indicating that it believes the resources can serve the greater good as the industry continues to test uncharted waters with applications that, while based on computer science, have been regarded as financial in nature by global regulators.

“Tools like this … should help get developers on notice about these risks and maybe shed some light on why these regulations matter and should be taken seriously,” director of research Peter Van Valkenburgh wrote.

Overall, the paper is bullish on the idea that blockchains that do not restrict user participation will enable the creation of new businesses that mirror Amazon and Facebook in design, while having a similar global impact.

Yet, the work stops short of offering formal legal advice. Rather, Bramanathan positioned it as a primer, focused on US law, that enables developers to be prepared when seeking guidance.

The release follows a notable uptick in market activity, with CoinDesk’s Q3 State of Blockchain report finding that nearly $200m ($198.8m) has been raised through token sales in 2016 to date, with the majority ($152m) dedicated to the failed DAO project.

Bleeding edge

While new, the publication marks the latest addition to a canon of research that those involved admit has perhaps not kept up with innovation.

Bramanathan acknowledged that while some lawyers have written about the subject, the industry is still largely dependent on a handful of skilled professionals whose time and energies are falling short of the needs of what they say is a growing market.

“There are precious few lawyers who understand this space,” he said.

That said, he also noted that there is a limit on available expertise. For example, Bramanathan said that the work challenged his own perceptions about how the technology could be used in the context of existing regulations.

“One interesting thing that we found is that if your token is properly designed, then the fact that it is a pre-sale doesn’t automatically make it a security,” he said.

“There was a view that any pre-sale makes it a security, and there’s a strong argument for pre-sales to be non-securities in some cases.”

Business impact

Still, the paper was critical of common practices in the space, such as the tendency for developers who use such issuance models to attempt to increase the value of tokens sold as a method of generating fundraising dollars.

Bramanathan described the current state of the market as a “free for all”, but said that the five “principles” put forward, if followed, should provide public confidence in projects.

The release comes at a time when Coinbase has made overtures to developers releasing so-called ‘protocol tokens’ or ‘digital assets’, adding new offerings to its exchange over the course of 2016. To date, this has included ether, the cryptocurrency powering the ethereum protocol, and litecoin, a bitcoin alternative.

Coinbase declined to speak about how the release would impact its product roadmap.

Legal book image via Shutterstock