In a new filing, the SEC defended its enforcement action against crypto giant Binance, outlining fundamental registration failures and a secret scheme to evade the law. The SEC countered Binance arguments invoking due process, the major questions doctrine, and the “invented requirement” of a contractual relationship (SEC v. Binance Holdings Limited, November 7, 2023).
SEC allegations. The SEC’s enforcement action against Binance entities involves several sets of allegations.
Broadly, the SEC alleges:
- Binance and its U.S. affiliate BAM Trading operated unregistered national securities exchanges, broker-dealers, and clearing agencies;
- Binance and BAM Trading engaged in the unregistered offer and sale of Binance’s own crypto assets, including a so-called exchange token BNB, a so-called stablecoin Binance USD (BUSD), certain crypto-lending products, and a staking-as-a-service program;
- To evade regulation and operate in the U.S., Binance and founder Changpeng Zhao used the so-called “Tai Chi Plan” to secretly control the Binance.US platform’s operations and allow U.S. customers to continue trading, against Binance public claims to the contrary.
Not so, said the SEC. Under Howey, an “investment contract” is a “contract, transaction, or scheme” that contains the three characteristics outlined in the test. Further, the D.C. Circuit has held that an investment contract is “anything that investors purchase” that meets the prongs of Howey’s test.
The idea that Howey requires a contract is an “invented requirement” unsupported by law, said the SEC.
“These arguments elevate form over substance and seek to turn the federal securities laws into matters of contract law in contravention of decades of well-established law … Critically, Defendants do not cite one case holding that these nebulous requirements are part of the analysis,” wrote the SEC.
The SEC added, “No court has adopted Defendants’ tortured interpretation of the law. To the contrary, courts have consistently rejected it, and this Court should as well.”
Due process. Binance and Zhao argued that the SEC failed to provide fair notice that their conduct was illegal under federal securities laws.
According to the SEC, the fair notice argument ignores the “over one hundred actions” the SEC has brought with respect to crypto assets securities, as well as guidance from SEC staff as to how it analyzes the question of whether a crypto asset is a security. Courts have consistently rejected the argument that the term “investment contract” fails to provide constitutionally required notice, the SEC said.
The SEC also disputed that its position on crypto assets has “shifted” or that it is applying the law retroactively.
Major questions doctrine. Both sets of defendants argued that the SEC lacks authority to regulate the “nascent, transformative, trillion-dollar” digital asset industry under the “major questions doctrine” articulated by the Supreme Court.
“Where, as here, an agency asserts authority over a question of major ‘economic and political significance’—particularly where the agency has not done so before—the major questions doctrine provides that an agency must “point to ‘clear congressional authorization for the power it claims,” wrote BAM Trading.
This argument was echoed by the Digital Chamber of Commerce in an amicus brief.
“[G]iven the size of the blockchain economy, the SEC’s attempt to treat tokens as investment contract securities presents a ‘major question’ under the U.S. Supreme Court’s Major Questions Doctrine. The SEC should have sought proper authorization from Congress rather than attempting to capture a bigger piece of the regulatory and enforcement pie via actions such as this one,” the Digital Chamber of Commerce wrote.
The SEC contested this, saying courts have refused to extend this doctrine to an agency’s exercise of enforcement authority.
Even if it were applicable in the enforcement context, said the SEC, the circumstances warranting its application are absent here. The economic issues involved in the crypto industry would not affect 80 percent of the country, as in Alabama Ass’n of Realtors v. HHS, or force a nationwide transition away from coal, as in West Virginia v. EPA.
Finally, the SEC argued that enforcing the federal securities laws here thus does not represent the exercise of a “newfound power” but the exact type of enforcement action that Congress expected the SEC to bring.
This is case No. 1:23-cv-01599-ABJ-ZMF (docket).