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S.E.C. RULES + EXEMPTIONS

Launching Your ICO

Navigating Securities Registration and Exemptions  for Virtual Tokens

The Securities Act makes it illegal for any person to offer or sell a security unless it has first been registered with the Securities and Exchange Commission (SEC) or an exemption from registration applies.

The SEC has made clear that some virtual tokens may be securities subject to this requirement. Registration with the SEC is an expensive, time-consuming process.

Consequently, successfully launching a new virtual token generally requires engaging in a thorough review of the token and its offering to ensure that either it is not a security or it is exempted from registration.

ATTORNEYS' EXPERIENCE

Advised ICO team regarding SEC registration requirements and available exemptions, including the limitations on the amount of investment, advertising and solicitation, investors’ requirements and necessary provisions for the whitepaper

Providing ongoing updates to clients regarding the latest regulatory developments, including relevant releases by the Securities and Exchange Commission (SEC) in connection with regulating existing and new cryptocurrencies and ICOs

Advised clients on the difference between utility and security tokens under the current regulatory framework in the U.S.

Reviewed marketing materials, including the whitepaper, for compliance with securities regulations

Advised companies in the U.S. and abroad on ICOs in the real estate, investment, gaming, media, lending and retail industries

SEC Registration is an Onerous Process

If the SEC determines that a token is a security, SEC registration is necessary before such token can be offered for sale (unless an exemption from registration applies). Registration of a security involves filing a registration statement with the SEC. The registration statement contains comprehensive information about the security to be sold and its issuer.

Before the registration statement is filed, it is illegal for a person to offer to sell a security. The SEC’s definition of “offer” is broad, encompassing not only explicit offers of sale but any publicity efforts which condition the public mind or arouse public interest in the security. For example, a virtual token whitepaper could violate this restriction.

After the registration statement is filed, a waiting period begins. The registration will become effective at the end of the waiting period. During the waiting period, it is legal to offer the security for sale but not to sell it.

Once the registration statement is effective, the security may be both offered for sale and sold. At this point, any offers must be accompanied by a final prospectus.

Overall, the SEC registration process is very expensive and time-consuming. However, just because the token is qualified as a security does not necessarily mean that the clients must go through the SEC registration process. Often, we advise client on the availability of statutory exemptions from registration and guide the clients through the process of utilizing one of the available exemptions.

“Security” Tokens Can Avoid SEC Registration Through Exemptions

Registration of a security is not necessary if an exemption applies. The Securities Act and SEC regulations define a series of exemptions for securities or for transactions involving securities. Certain offerings that are exempt from registration may only be offered to, or purchased by, persons who are accredited investors and contain other restrictions and requirements. Careful legal guidance is always essential to successful compliance with SEC rules and applicable exemptions.

Common exemptions from the registration requirement include:

  • Regulation D: The SEC’s Regulation D exempts transactions that meet certain requirements. Generally, these include limits on the amounts raised and the number of buyers who are non-accredited investors, requirements for the information provided to investors, and restrictions on resale of the securities. Two most commonly used exemptions are under rules 506 (b) and 506 (c) of Regulation D. These rules differ in limitations on general solicitation and advertising and the requirements for accredited investors. Rule 506(c) exemption also preempts state securities laws that require registration. The main drawback  is that the securities offered under a Rule 506(c), meaning they cannot be traded freely.
  • Regulation A: Reg A+ exempts public offerings that satisfy certain criteria as to the issuer, type of security, investors, and disclosures. It allows for general solicitation and both accredited and unaccredited investors. In addition, securities offered in Reg A+ are freely tradable. Under Regulation A, offerings of up to $50 million during a 12-month period can be exempted. However, compliance with Tier II of Reg A (up to $50 million) requires significant upfront costs for going through SEC review and ongoing reporting requirements.
  • Regulation S: Reg S exempts offers and sales of securities “that occur outside the United States”. Thus, the Reg S exemption is useful only when all the offers and sales activities are completed entirely outside of the US and made only to non-US Persons. Sometimes, a combination of Reg S and another exemption for US investors is a viable option. The limitation of Reg S is that it is only a federal exemption. A company that relies on Reg S must separately seek a state securities exemption.

Failure to Register When Required Has Severe Consequences

Offering or selling a security without first registering it with the SEC can lead to substantial negative consequences, including:

  • Significant penalties and sanctions imposed by the federal government through criminal, civil and administrative proceedings
  • Civil liability to the buyer for damages or rescission of the sale. If the seller is an entity, then any person with control over it will be jointly and severally liable for such damages

How Dilendorf & Khurdayan Helps Clients Comply with SEC Rules

Dilendorf & Khurdayan is a New York City law firm that assists clients who develop and launch virtual tokens in understanding, planning for and complying with federal securities laws.

Our services include:

  • A comprehensive token analysis to determine whether the virtual token is a security under state or federal law
  • Advising clients regarding the legal requirements for their token, whether or not it is classified as a security
  • Carefully structuring ICOs involving tokens that are securities to satisfy the requirements of one or more exemptions from SEC registration

For a consultation about S.E.C. rules governing launch of ICOs

please contact Dilendorf & Khurdayan by sending an email or calling us at 212.457.9797.

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