There is an air of uncertainty in the industry in the aftermath of the US Securities and Exchange Commission clampdown on crypto staking, which resulted in a hefty $30 million fine for the cryptocurrency exchange Kraken. However, its fellow giant in the industry, Coinbase, has vowed to hold its ground on its staking services and will defend it in court if necessary.
The Grounds of Coinbase
Coinbase CEO Brian Armstrong argued that his company’s staking services do not qualify as securities, thus, it does not fall under the scrutiny of the SEC. Echoing the statement of the firm’s Chief Legal Officer Paul Grewal, he also stated that Kraken’s staking protocol is different than the mechanism employed by Coinbase.
The Howey Test on Crypto
Grewal argues that staking — at least on the end of Coinbase — does not meet the four elements of the Howey test. This stems from the landmark 1946 US Supreme Court ruling in the SEC v. W.J. Howey Co. case that determines whether a transaction is a form of an “investment contract” or not. If it is indeed classified as such, it would therefore be under the scrutiny of US securities laws.
Without delving too much into the technicalities of the case, the four elements that the test should fulfill in order to determine a transaction as an investment contract are the following:
- Investment of money
- Common enterprise
- Reasonable expectation of profits
- Efforts of others
It should be recalled that former SEC Chair Jay Clayton applied the Howey test in hammering his ruling on the matter of Bitcoin back in 2018. He clarified that this specific crypto is not a security because of the following points:
- Cryptocurrencies are considered to be substitutes for independent currencies such as the dollar, euro, and yen, among others.
- BTC does on use or seek public funds for the creation or development of its technology.
Despite his clear stance on Bitcoin, Clayton didn’t comment further on other cryptocurrencies, especially Ethereum and Ripple’s XRP.
When applied on the staking platform of Coinbase on the other hand, Grewal had the following defenses:
- Crypto staking is not an investment because the person putting a stake isn’t giving up one thing to get another. The same commodity they own is exactly the same as when they acquired it.
- The rewards serve as payments for the validation of services in the blockchain, hence, do not pose themselves as investments.
While the first argument holds water in this subject, the second is seen as a hard sell on Coinbase’s part. This is due to the fact that regulators tend to treat staking rewards in the same manner as returns.
Kraken Vs. Coinbase Staking
Grewal strongly said that the staking instrument of Coinbase differs from that of Kraken. The latter poses its rewards as annual investment returns akin to a savings account in banks while the former lines up the rewards for its staking mechanism in annual percentage earnings.
Our Thoughts
The strong defiance of Coinbase to the SEC is seen as a catalyst that will pave the way for the determination of the legality of the different staking protocols employed by various entities in the crypto landscape. Likewise, it will force the hand of SEC to further review its stance and boundaries with respect to the different classifications of staking used by crypto exchanges.