Federal bill to exempt digital tokens from securities laws gets a new look, and a downgrade

The U.S. Congress will get its crack at sorting out crypto’s “regulatory uncertainty” after all. Hold your applause; that’s not necessarily a good thing.

On Tuesday, Congressman Warren Davidson (R-Ohio) reintroduced the Token Taxonomy Act—legislation which aims to exempt certain tokens and digital assets from federal securities laws, rescuing “digital tokens” from the SEC’s enforcement hounds and allowing cryptos to flow freely throughout the land, forever and ever, amen. Or that’s how it’s being sold, at least.

The original version of the bill was introduced late last year, at the tail end of the legislation session. Having been submitted so late in the game, it never really stood a chance of getting anywhere, but it nevertheless became the talk of cryptoland for a hot minute.

This time around, the Token Taxonomy Act will get its shot at making the rounds in the halls of Congress in earnest, and Rep. Davidson brought some high-value reinforcements: joining his list of co-sponsors is Democratic presidential candidate Tulsi Gabbard (D-HI), a known crypto hodler. Gabbard disclosed last year that she purchased somewhere between $1,001 and $15,000 worth of ETH in December 2017—which means she either made out like a bandit a month later, or got absolutely rekt along with the rest of you.

“In Hawaii and across America, local and state leaders are looking at the potential for blockchain technology to create and expand economic opportunity,” Gabbard said in a statement.

“With the introduction of the Token Taxonomy Act today, Congress has the opportunity to help ensure that these efforts not only protect investors, but also promote innovation as well as new business opportunities that allow more diverse districts like mine to have greater security when participating in the digital economy.”

Gabbard throwing her weight behind the Token Taxonomy Act might give it a helpful dose of political capital, but the new bill remains as flawed as the first—if not worse.

"I can't imagine legislation that is worse for blockchain entrepreneurs, regulators or markets than this," says Gabriel Shapiro, an attorney with crypto-focused DLx Law.

Crypto state rights

Version 2.0 of the Token Taxonomy Act is virtually identical to the original—seeking to amend the Securities Act of 1933 and the Securities Exchange Act of 1940 by adding exemptions for what the bill very narrowly (and yet still vaguely) defines as a "digital token."

There are, however, two notable differences: a slight change to the definition of a "digital token," and a provision that explicitly preempts any state law that sets its own rules for digital assets and securities.

Yeah, that includes Wyoming, Colorado, and the various other states that have passed or proposed versions of Wyoming's Utility Token Act.

The Token Taxonomy Act, if passed and signed into law as is, would expand the National Securities Markets Improvement Act—a law that allocated greater regulatory power to the federal government over securities in the late 1990s—in an “unprecedented” way, says the crypto lawyer.

The bill would essentially prohibit states “from regulating any aspect of digital token sales other than full-on fraud,” says Shapiro. “To call this an insult to states' rights would be putting it very mildly.”

A dizzying definition of digital assets

What that means is, under the Token Taxonomy Act, every state in the union would be forced to abide by the federal government’s definition of a “digital token” as laid out in the bill.

In theory, a common definition of a token exempted from securities law might sound just dandy—the sort of “plain English” guidance the market has been begging for, even.

But be careful what you wish for.

Despite an attempt by lawmakers to make its definitions clearer, the changes are effectively immaterial, and the language remains equally confusing, says Shapiro.

"If it passes, instead of litigating whether a token is a security under the Howey Test and with the benefit of 70+ years of jurisprudence and regulatory guidance for how that test is applied, blockchain entrepreneurs and their lawyers can look forward to litigating, in a vacuum, the meaning of phrases like 'mathematically verifiable process,' 'consensus,' 'financial interest in a company or partnership,'" and so on, he says.

That's the problem with asking politicians to nail down distributed technology in an all-encompassing, one-size-fits-all law of the land. It isn't easy.

Matt Corva, general counsel for ConsenSys (which funds Decrypt), has been supportive of legislative efforts surrounding digital assets, including the Token Taxonomy Act when it was first introduced. Corva says, however, that we have to tread carefully. "This stuff is evolving. A definition we come up with today has to be future-proof, because modifying laws is very difficult. Our well-intentioned definitions of today may prove to be incorrect as soon as six months from now.”

Shapiro, though, is convinced that the Token Taxonomy Act would be a giant step backwards: “Even the status quo of Howey, as vague and frustrating as it is, is certainly superior,” he says.

Cui bono?

So is the bill good for anything?

Yeah—lawyers, says Shapiro.

Provisions in the proposed law essentially give token sellers a “get out of jail free” card if they can demonstrate a “reasonable and good faith belief” that they were not selling a security, he explains. It would also require the SEC to notify those shilling tokens of any violation of securities laws within 90 days.

Expect “a new wave of ICOs, speculative legal memos/opinions for wannabe U.S. token sellers, and protracted, unpredictable litigation,” if this thing passes, says Shapiro.

Ah. Good for crypto journalists then, too.