Security token

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A security token is a digital asset identified as a security under relevant law. The term is also used to describe a device used in denying or providing access to IT or telecommunications systems.

Background

In the United States, investment contracts and corporate equity are common forms of regulated securities. To the extent that the tokenization of a security is economically trivial, security tokens are regulated by the U.S. Securities and Exchange Commission as securities subject to the same rules as other securities.[1] Security tokens were originally sold by start ups to the public as "initial coin offerings" (ICOs) whereby the funds received from the ICO were meant to fund the further development of the start up's technology and commercial offering. In most cases the tokens were meant to metamorphose into tokens with utility in the ultimate blockchain's operation or into certificates for privileges like access priority or fee discounts once the intended technology is up and running.

Until about 2018, issuers of such tokens did not register them or otherwise seek to comply with SEC securities and exchange regulations.

Controversy

On July 17, 2017 the SEC published an investigative report about the failure of the DAO. The report describes the establishment and organization of the DAO and notes, by doing business with U.S. residents, the DAO likely violated the federal securities laws. It found that the DAO tokens would be securities under the Howey test and that they should have been registered and offered pursuant to the Commission's regulations unless they were eligible for exemption. In addition, the Commission indicated that platforms where the DAO tokens were traded probably should have been registered as securities exchanges or other regulated facilities unless there were relevant exemptions available.[2]

Regulation

Once a token is found to be a security as equity or pursuant to the Howey Test, the token is required to comply with all relevant SEC regulations.[3] Whether a token is a security is self-determined by the issuer with the realization that it may be subject to SEC enforcement action if it fails to register 'bona fide' securities with the agency.

References