You may have heard by now that the SEC published a framework for ICOs. This is meant to provide guidance on when ICOs are subject to the federal securities laws. The framework goes through the Howey test--the test that the SEC uses to determine whether an ICO is considered, an “investment contract”-- and gives a list of factors the SEC considers when determining whether ICOs are securities. It also includes an example of when an tokens are likely to be securities and when they are not.
If you’re planning to do an ICO, you must determine is whether you are offering and selling securities. The definition of a security can be found in the Securities Act of 1933 and the Exchange Act of 1934.
In analyzing whether ICO tokens are securities, the SEC has used the Howey test. This is the test that is used to determine whether new ways of raising money are considered, “investment contracts,” which is one type of security.
Under Howey, an investment contract is an investment of money in a common enterprise, where the buyer reasonably expects profits from the efforts of others.
If your ICO has all the characteristics set forth in the Howey test, your ICO is likely to be considered an “investment contract.” This means, you are subject to the federal securities laws and you must register the offer and sale of your ICO or qualify for an exemption.
The factors that the SEC considers relevant in determining whether an ICO should be considered an offer and sale of securities include, whether the network is fully functional or being developed, whether the company or promoter is putting efforts into making the tokens more valuable, and whether they are facilitating a secondary market for the tokens.
If you’re selling tokens solely to access services or goods on a fully functional network and the buyer cannot reasonably expect to profit from their purchase then you’re likely not selling a security.
For example, if an online retail store with a fully developed and operating business decides to market and sell tokens to its existing customers, these tokens will likely not be considered securities if the tokens are marketed as a means of payment to customers that will use the tokens in exchange for goods, the tokens can be immediately redeemed for such goods, and the tokens can only be used in that particular store.
On the other hand, even if the tokens are immediately usable to purchase goods, factors that suggest that the tokens are securities include selling the tokens at a discount, selling in quantities exceeding reasonable use, allowing the tokens to be resold, particularly when efforts are made to increase the value of tokens or created a secondary market for the tokens.