Securities Law Issues Around ICOs: An Interview with Jeferey A Bekiares, ESQ, Corporate Securities Lawyer

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Jeff Bekiares is a founding partner of the technology firm, Founders Legal, with over 10 years of experience in corporate, capital-raising and securities law. Blockchain Healthcare Review Senior Editor Jennifer Georgino, a former corporate paralegal and legal manager, recently sat down with Jeff to talk about legal issues affecting the ICO and overall cryptocurrency space from the vantage point of an experienced corporate securities lawyer.

Q: What are the current issues regarding SEC regulations and compliance around ICO’s, and any updates from your presentation a month ago which I attended on this subject?

A: The BIG debate going on in the space right now: Are ICO’s going to be regulated by the SEC? Their pronouncements have pointed in the direction of yes, they are paying attention – Regardless of public or private, are tokens or coins being offered in fact a “security”, and are you registered with us, or have you run the proper tests to determine if you are exempt? They have in fact shut some ICOs already. This month the Chairman (SEC) announced that they are looking into the debate further with enforcement resources. No new rules or laws, but these are new policy announcements, so understand that if you are in the industry, you may get a phone call from them inquiring. He also stated they are looking at the Exchanges. The SEC is asking:  Exchanges: If you are facilitating liquidity in token/coins, explain why you should not be registered with us as a securities exchange? Finally, new laws will be a while coming, and regulations will be at least a year from now out of Congress, but these policy guidelines stand now.

Q: Is it in the purview of the SEC to chase those who already launched ICOs in 2017, whilst we had little, if any, guidance from the SEC?

A: In theory, it is in their jurisdiction, but one doubts they would, as there was little clear guidance at the time. In my experience, as a regulatory agency the SEC has a mandate to ensure capital-raising is safe and efficient. ICOs are here to stay. Once the SEC gets their arms around it, ICO’s will be more difficult to do, and the excitement will calm down. This will be a good thing,, as those doing ICOs will be more serious about it.

Q: Utility token v Security being offered to general public? Please define/clarify for us.

A: This is an important distinction. A utility token is designed for a “useful purpose” with respect to the business operation going forward. However, the SEC doesn’t care what you call it. They will make their decision based on “substance over form”. If the understanding is that the token will increase in value as an investment, it can then be defined as a “security”. It will need to be registered in order to offer it to the public at large OR, if determined to be exempt from registration, it will utilize the typical capital-raising exemptions options available to privately raise capital in the past.

Q: Why would a startup look at the ICO path versus F&F, a public IPO, VCs, etc.?

A: Historically, those in the ICO space raising capital in the past could have seen it as an easy means to avoid the SEC quagmire or analysis, and even perfect an exemption. And with no official guidance to the contrary, they were not necessarily doing anything willfully illegal, as it did not appear to be a “security” per se. Obviously, going forward, that logic is no longer valid. By raising capital via an IPO, you are definitively giving up control and ownership of your company. Rather, with an ICO, even if categorized as a security, you are not giving up leverage in your company necessarily, depending on the terms. The buyers are not typically shareholders for instance, though some rules of recent ICO’s have given token-holders certain voting powers. Another reason to prefer an ICO is to get the tokens in circulation in your marketplace/ecosystem. The point of doing a pre-ICO sale and issuing the tokens subsequently, using the underlying blockchain technology, with a valid use case, is to have some future usefulness for them, otherwise they are simply shares of stock.

Q: Speaking of an ICO, tell us the importance of the Disclosure documentation?

A: The primary purpose of Securities law is to protect investors from fraud, period – in fairness, and that which is disclosed to investors should be in compliance.  Let me suggest three fundamentals for a Disclosure document vis-à-vis potential token buyers;

  1. What are you going to do with their funding?
  2. What are they getting in return?
  3. What are the “material facts” about your company that allows buyers to make an informed decision to buy or not.

Q: With regard to IP value and protections, most startups have patents “pending” for years. Is there any protection in patents pending?

A:  Half of our firm handles patent prosecutions, searches, etc. Though I am a corporate securities lawyer. I will state, however, underlying technology protection is vitally important as THE “value” of a startup in the technology development space; not simply in the US, but forging protections abroad as well. File the applications as soon as possible! It can be pricey and take years, but once securing your place in line, you also secure the value to a large extent. The IP lawyers in our firm will discuss the likelihood of getting your patent approved or not to confirm there is potential value, and that it is a worthwhile endeavor.

Q: Talk to me about Smart Contracts utilized in blockchains, and how transactions will be traced, if for the better as a result. Obviously, some attorneys are fearful of the model.

A: Smart Contracts will make a huge difference in the legal industry and in society in the broader universe. I am very bullish on smart contracts! In its simplest terms, a smart contract is a set of digital rules that are encoded, which essentially states, if X happens, then Y will happen. The parties that enter into the agreement cannot change it, unless they agree it can be changed in the rules, and how. In its simplest terms, as long as goods are confirmed received on the blockchain, the payment is made automatically. It is a self-executing agreement in a trust-less environment. Each party has access to amend, IF all parties are in agreement. It codifies what is in a heretofore written agreement or what has been agreed to verbally.

Q: Can you address the issues of privacy and security in a blockchain environment, as we are addressing primarily the healthcare market, and therefore private blockchains?

A: In its best and purest form, blockchains and crypto currencies are very secure and private. In healthcare, blockchain technology can provide the anonymity required. Transactions can be publicly verified against the ledger, but cannot be privately traced, albeit nefarious activities will always be attempted. There are already digital medical records in the majority of healthcare environments that make it currently far more secure than it has been, so the trend for more secure privacy with blockchain added will continue.

Q:  Does anyone have recourse with a number to call at the SEC around problems with the Exchanges, etc.?

A: The Investor Protection and Enforcement Division at the SEC would love to hear your complaints, and are monitoring consumer complaints. Though they cannot reverse a blockchain transaction, they have a lot of tools to utilize regarding possible criminal actions in their toolbox.

Q: What advice would you give healthcare organizations with regard to ransomware Issues?

A: Don’t ignore securing your data BEFORE a threat comes! With the retention of patient medical records, you have a huge “bulls eye” on your back from a lot of different arenas. This data is incredibly valuable. Information security is not an area where you can cut the budget. In addition, all operating systems must be kept updated. You are responsible for your systems being updated with critical patches.

Q: What is going on with GDPR around privacy in Europe?

A: Any company with a SAAS product who does business in Europe is having to update their contracts, and we have clients doing that currently. It involves having data compliance in place for data privacy laws in Europe.

Q: Tell me about tax implications in the ICO world?

A: When raising capital through crowdfunding of some kind, and taking in cash, it is considered “ordinary income”, and taxed accordingly i.e. the sale of an item. If you are raising money through the sale of stock, that is not taxable income to the business or partners. In ICOs, however, we do NOT know yet! If it is a utility token, it can look like crowdfunding, but if a security, it perhaps sounds like owners’ equity and is paid back to the business. Of course crypto is treated like personal property, an asset, but again, the definitions can be confusing depending on the regulatory body. We will know more once 2017 tax filing season hits soon.

Q: Finally, DIY v Legal Assistance?

A:. If there are any questions around the issues we have discussed, the first thing you should do is talk to a competent attorney in the space. And they should not charge you until you come to an agreement that they are going to charge you. I am a practical lawyer and keep client resources in mind when advising clients. The first hallmark of a good, ethical lawyer is for them to say to you; Here is what I think your issues are, here is what I believe you should address right away and here is what you can put off until later, and the average cost of this is -blank-. This simple, brief “consult” should be free in my opinion. I do no push clients to do more at that moment than is required. Of course up front we would need to prepare your organizational documents, partner agreements, shareholder agreements, and the business deal documented, etc., but until you have your business plan in place, a go-to-market strategy, your capital raising program, a targeted audience and are ready, I will not draft your pre-ICO agreements.

Jeff is speaking this week at the TI:GER Innovation Center’s Blockchain event at Emory law school.


Jennifer Georgino
Jennifer Georgino
Jennifer is the Senior Editor of Blockchain Healthcare Review. She keeps her audience informed with the latest happenings and trends, based on conversations with thought leadership in blockchain innovation. She participates in healthcare-related, digital and blockchain conferences nationally as a speaker, moderator or panel member.