How the Ripple v. SEC Could Affect Entire Crypto Industry: A Lawyer’s View

As the U.S. Securities and Exchange Commission (SEC) launches a full offensive against crypto this year, an ongoing lawsuit against one of the agency’s earliest industry targets – Ripple – remains more widespread than Never.

Given recent developments, many parties close to the case believe the court’s decision could be imminent. How could the outcome of the Ripple v. SEC lawsuit affect the crypto market and the regulatory landscape as a whole?

Let’s dive into it.

Recap: Ripple vs. SEC

In December 2020, the SEC accused Ripple and its two top executives – CEO Brad Garlinghouse and former CEO Chris Larsen – with the completion of a $1.3 billion unregistered securities offering in the form of XRP, dating back to 2013.

The lawsuit sent the price of XRP plummeting at the time and prompted many crypto exchanges to delist the asset to remain compliant with federal securities laws.

However, Ripple did not back down. According to Garlinghouse, the company has spent about $200 million to defend against the SEC allegations. The company’s main argument is that XRP itself is not a security or investment contract, but a digital currency used to facilitate cross-border payments.

Garlinghouse voiced trust last month that the case could be nearing conclusion within weeks – implying that its resolution could be announced any day now.

Who is correct?

So far, the US Congress has not passed any legislation clarifying how crypto assets should be classified under the law, either as securities or commodities.

The country’s main market regulators – the SEC and the Commodities and Futures Trading Commission (CFTC) – are at odds on the matter, with the former apparently believing that all cryptos besides Bitcoin are securities.

SEC Chairman Gary Gensler keeps his lips tight when asked to publicly discuss which specific cryptocurrencies are securities. Instead, he often refers the industry to the Howey test – a decades-old legal standard for determining whether financial assets qualify as investment contracts, and therefore as securities under the Securities Act. of 1933.

There are four components to passing the Howey test:

1. An investment of money…
2. In a joint venture…
3. Expecting a profit…
4. Being derived from the efforts of others.

Industry leaders like Ripple often dispute the SEC’s interpretation of the Howey test when applied to digital assets. For example, Coinbase argue that stablecoins like BUSD issued by Paxos (which the SEC says is a security this month) are not investments because their value remains “stable” over time.

What do lawyers think about XRP?

John Deaton – founder of Crypto Law.US – is an attorney representing over 75,000 XRP holders in the Ripple v SEC lawsuit. He is strongly opposed to the SEC’s position, saying that XRP is not a security and that Gensler should be fired from his position.

So when you consider the entire law, the SEC has NOTHING to support its theory that secondary market sales are also securities. Some may argue that the SEC has the right to pursue new theories, unsupported by law. I do not agree.

— John E Deaton (@JohnEDeaton1) June 19, 2023

Sandy Seth – a 25-year-old patent attorney – also expressed skepticism about the SEC case in a Twitter thread on Monday, arguing that XRP does not meet all the requirements for an investment contract under Howey. Although he is not a securities lawyer by profession, Seth’s analysis received praise of Deaton as “good or better than any of mine or anyone else”.

Seth spoke with CryptoPotato this week about his case against the SEC and the implications of the lawsuit for the entire industry.

“The most basic requirement (of) a security is an instrument that proves financial interest in a joint venture, as the Howey contracts did,” he said. The SEC, on the other hand, “falsely” attempted to eliminate this requirement.

His assertions agree with those of Deaton who has often said Ripple’s success as a business is not necessarily tied to XRP’s gains or losses in the market.

Seth said he hopes the SEC isn’t “fooled” by the SEC’s Howey interpretation, and that none of the contracts under which Ripple sold XRP are securities, because they don’t ” convey any interest in a joint venture”.

Hinman emails

Another of Ripple’s common arguments is that the crypto industry has received flawed and conflicting advice from the SEC on how digital assets are classified. They cite a 2018 speech by former commissioner William Hinman as an example, in which he describes how cryptos that were once commodities could potentially become securities, among other criteria.

Earlier this month, the SEC was forced to release internal communications about the speech. The emails revealed that Hinman published the speech despite receiving several warnings from fellow agency members that the speech could confuse readers about the characteristics considered for an asset to be a security.

While pointing to evidence of potential SEC corruption, Seth said those emails were likely just a “red herring.”

“The fair notice defense is *NOT* involved (if the Court decides, as it should, that neither XRP itself nor the Ripple contracts under which it was sold were investment contracts ),” he explained.

What does this mean for crypto?

Like many in the crypto industry, Seth thinks that a ruling in favor of Ripple can “one shot clear” that the SEC does not have broad authority over the crypto industry.

This would effectively protect crypto companies from future agency enforcement action until clarifying legislation is passed in Congress. Until then, another agency – like the CFTC – could take over.

The SEC sued crypto exchanges Binance and Coinbase this month, alleging that more than a dozen cryptos listed on their platforms were in-process securities. Many of these coins – including Cardano (ADA) and Solana (SOL) – sold and behaved similarly to XRP, and suffered losses similar to XRP after the SEC allegations.

Seth is a crypto investor himself, having spent months coming to his conclusion on the case after reading the SEC’s summary judgment documents.

“Through bogus enforcement actions, the SEC has terrorized the crypto industry,” he said. “The SEC harmed crypto investors, and moreover, they knew they were harming investors when they filed these lawsuits.”