A federal court has denied crypto exchange Gemini and Genesis Global Capital's joint motion to dismiss the SEC's filing regarding their defunct Gemini Earn program, according to a March 13 deposit.
The court also denied the companies' motion to strike the regulator's requests for a permanent injunction and restitution.
The court found that the SEC's complaint “plausibly alleges” that the companies offered and sold securities through Gemini Earn under the Howey and Reves test.
Howey test applied
One prong of the Howey test concerns the status of Gemini Earn as an investment contract. The court determined that the SEC sufficiently alleged joint enterprise and horizontal community, the latter involving tying together the fortunes of investors through the pooling of assets.
The companies had previously argued that Earn's payments based on market rates and the ability for customers to withdraw from the agreement at any time precluded a joint venture and horizontal community.
They also argued that individual treatment of clients and lack of “participation” among clients did not meet this part of the test. However, the court determined that the two companies' counterarguments were “unpersuasive.”
The fact that the Gemini Earn agreements stipulate that the loans are intended to act as commercial loans rather than securities does not necessarily make them an economic reality under the test, the court said.
Additionally, the court determined that the SEC sufficiently demonstrated that Earn's investors expected profits from their investments.
The judge denied the companies' claim that profits were not directly dependent on Genesis' efforts and its use of borrowed crypto funds, because Genesis had advertised the program as an investment with high interest rate returns.
Reves test supports SEC
Under the SEC's separate Reves test, Genesis failed to challenge the presumption that each note constitutes a security.
According to the filing, Gemini and Genesis' counterarguments were “at odds with the broad scope of the securities laws” in this area.
This conclusion was based on the motivations of Genesis and the investors, which were oriented towards investment rather than commercial objectives, with Genesis seeking to generate income through loans and investors attracted by the promise of high interest rates.
The wide dissemination of the agreements to a large public segment, combined with the reasonable expectations of investors to benefit from their participation, also supported this classification.
Additionally, the absence of alternative regulatory regimes or other risk-reducing factors reinforced the court's determination that the Gemini Earn agreements, as offered and sold under the Gemini Earn program, constitute securities according to the Reves test.