What the BlockFi SEC Settlement Means for Bitcoin and Crypto Lending

Crypto lending firm BlockFi must pay $100 million to federal and state securities regulators to settle charges that it failed to properly register its high-yield Blockfi Interest Accounts (BIAs), according to a press release Monday from the Securities and Exchange Commission.

The news first broke late Friday night and was confirmed with details by the agency this morning. Lawyers within the crypto space say that while the terms of the settlement may provide a regulatory playbook for centralized crypto firms, they could signal danger for DAOs and lead to worse choices for consumers.

BlockFi makes money, in part, by paying interest of up to 10% on crypto deposits such as Bitcoin and stablecoins then loaning out the assets at higher rates. According to the SEC, BIAs are securities but were not registered as such. The agency further alleges that BlockFi "overstated the degree to which it secured protection from defaults by institutional borrowers through collateral." In short, it purportedly said most of its loans were over-collateralized when they weren't.

The firm must pay a $50 million penalty to the SEC, $50 million in fines to 32 states, stop registering new accounts, and meet the requirements of the Investment Company Act within 60 days. It neither admitted nor denied the agency's charges. 

BlockFi is putting a positive spin on things, saying it will register with the SEC and roll out a new offering that will help clear up regulatory questions for similar products: "We intend for BlockFi Yield to be a new, SEC-registered crypto interest-bearing security, which will allow clients to earn interest on their crypto assets.”

Many lawyers within the crypto space—as well as Decrypt readers—have seen this one coming. BlockFi and competitor Celsius both collected cease-and-desist and show-cause notices from various states last year before the SEC stepped in to investigate BlockFi in November. In September, the agency also scared off crypto exchange Coinbase from offering a similar product. 

Marc Boiron, chief legal officer at Ethereum-based decentralized exchange dYdX, says the settlement reads like a "PR stunt from the SEC." According to him, the agency will be able to be tough on crypto while also showing "it is open to registering crypto products for public offerings."

"BlockFi, a centralized group of entities, offers a very straightforward product that always should have been easy to register, regardless of whether it should have to be registered," he says, while suggesting that's less true of the more decentralized and convoluted parts of crypto.

But SEC Commissioner Peirce, who dissented with her colleagues, says BlockFi is in for a rough few months.

"BlockFi will not be allowed to take in any additional crypto from retail investors until the company has registered a new crypto lending product on Form S-1," she wrote in a statement on the SEC website. "Getting an S-1 to the point where staff will declare it effective is often a months-long, iterative process," she said, before adding: "When crypto is at issue, the timeframe is likely to be longer than it would be for more traditional filings."

Further, she doesn't see BlockFi easily overcoming another obstacle after the S-1: In a Catch-22, it's actually not able to register as an investment company—a category which applies to firms offering mutual funds, certain trusts, closed-end funds, and even some hedge funds—so has to apply for a registration exclusion. Given the SEC's "lack of experience" with such cases and its skepticism of crypto companies, Peirce thinks the 60-day timeline is "extremely ambitious," even if it gets a 30-day extension.

According to Brookwood P.C. Managing Partner Collins Belton, the investment company provision puts other products on notice—and not just Celsius and crypto lenders. 

He says the coming enforcement actions "shouldn't be surprising but unfortunately will be to many, particularly for the 'DAO' players that aren't actually D." ("DAO" stands for "decentralized autonomous organizations.") Many online groups have been forming as DAOs to pool funds and make investments—with DAO-specific tokens acting akin to shares for voting rights and stakes within a company. Some of these projects are, if not centralized per se, heavily influenced by a few token-holders. 

Belton notes, somewhat ominously, that "centrally managed asset pools are one of the few things the SEC/CFTC 'get' when it comes to crypto."

But according to crypto industry insiders in favor of such products, the biggest impact is on consumers not satisfied with squirreling away fiat into savings accounts that earn a fraction of a percent. Coinbase Ventures' Katherine Wu writes that the SEC's justification of consumer protection doesn't make sense given the alternatives: "If what this means is that US based customers who want yield now have to take their assets and put it into these 'decentralized' defi protocols [with] questionable token designs ([with] minimal research), that's a net negative."