The U.S. Securities and Exchange Commission (SEC) is asking Congress for more money to tackle criminality in the digital asset space just as ‘crypto bros’ are dunking on the regulator for lying in a legal action against one of their own.
Earlier this month, the SEC submitted its fiscal year 2025 Congressional Budget Justification Annual Performance Plan to Congress for approval. The SEC is asking for $2.594 billion in funding for the coming year, roughly 6.5% higher than the previous year. The SEC justifies the boost based on the “significant growth and change in our markets,” including “tools and technologies that were unavailable even a few years ago.”
Looming large among these newfangled developments is “the Wild West of the crypto markets, rife with noncompliance, where investors have put hard-earned assets at risk in a highly speculative asset class.” The SEC claims additional funding is needed to ensure investors are (a) properly educated on the risks of putting money into digital assets and (b) properly protected from unscrupulous grifters running thinly disguised Ponzi schemes and such.
Given the open disdain with which SEC Chair Gary Gensler is greeted during his appearances at House and Senate committee hearings, the SEC probably has a 50/50 shot at seeing its budget reduced in 2025. And a recent federal court ruling may have given Gensler’s critics even more ammunition to ensure his agency gives digital currency firms an easier ride in the future.
On March 18, the U.S. District Court for the District of Utah issued a stinging rebuke of the SEC’s behavior in prosecuting Digital Licensing Inc., aka DEBT Box. The SEC filed a
complaint against DEBT Box in July 2023, accusing the company of “an ongoing, sprawling, fraudulent securities offering through which Defendants have defrauded thousands of investors of at least $49 million.”
The SEC said the Wyoming-headquartered/Utah-based DEBT Box sold “node software licenses” that allegedly allowed investors to mine 11 different digital assets supported by “real projects tied to real assets.”
In reality, DEBT Box’s tokens were all BEP-20 tokens created on the Binance exchange’s
BNB Chain, meaning they “cannot be mined and never were mined.” Moreover, the ‘real projects’ allegedly backing these tokens were “a sham” in that “the businesses simply did not and do not have the capabilities or revenues Defendants repeatedly represented to investors.”
The SEC maintained that the individuals behind DEBT Box were taking “certain steps to evade law enforcement,” including moving its operations to Abu Dhabi, closing U.S. bank accounts under its control, and removing “over $720,000 in investor funds from those bank accounts.”
As such, the SEC filed a motion for a temporary restraining order (TRO) the same day as its complaint, seeking emergency relief “to stop an ongoing fraudulent securities offering.” Following a hearing, the court granted the TRO two days later, saying the SEC had made “a sufficient and proper showing in support of the relief granted herein.” But that’s where the SEC’s winning streak came to an abrupt end.
When you’re in a hole…
Last September, the DEBT Box defendants filed motions to dissolve the TRO due to the SEC’s TRO application containing “materially misleading information.” The court granted these motions after concluding the TRO was “improvidently issued.” The court also “expressed concern about potential misconduct Commission attorneys engaged in while obtaining and maintaining the TRO.”
On January 31, the SEC filed a motion to dismiss its complaint against DEBT Box without prejudice, meaning it could refile a less tainted complaint against the defendants at some future date. The defendants objected, saying the SEC was trying to evade the almost certain sanctions that the court seemed inclined to impose on the regulator.
On March 18, U.S. District Judge Robert Shelby did indeed impose sanctions against the SEC for “bad faith conduct in obtaining, maintaining, and defending the TRO.” This included SEC agents telling the court that the defendants had closed additional bank accounts 48 hours prior to the initial hearing.
In reality, the accounts were closed not by the defendants but by the banks, “presumably due to regulatory concerns about serving cryptocurrency clients.” Furthermore, following a June 2023 account closure, the defendants deposited the funds into another account at a bank based in Sandy, Utah, i.e., “not overseas.”
The SEC made other gaffes in its application, including claiming that the defendants were planning to shift their operations to the UAE. In reality, the defendants had moved their operations to the UAE the year before the complaint.
Shelby’s ruling noted that the SEC knew certain statements its representatives made at the TRO hearing were incorrect and yet made no effort to correct them. And when the defendants pointed out this falsehood, the SEC “communicated an additional materially false and misleading statement to the court.”
Shelby summarized his findings by saying that “each purportedly factual pillar the Commission constructed to make the required showing of irreparable harm crumbled under scrutiny.” Realizing that it had misled the court, the SEC “presented new falsehoods to the court in an effort to subtly shift from its previous misrepresentations without acknowledging its previous errors.”
Shelby said the court “cannot write these issues off as non-willful, inadvertent mistakes.” Whatever its motives, the SEC engaged in “an effort to obtain and defend an extraordinary
ex parte TRO to which it was not entitled.” The SEC’s conduct “constitutes a gross abuse of the power entrusted to it by Congress and substantially undermined the integrity of these proceedings and the judicial process.”
Shelby ordered the SEC to pay the defendants’ legal fees and costs for all expenses arising from the TRO but refrained from requiring the SEC to pay the defendants’ legal fees unrelated to the TRO. Shelby called this “the minimum amount reasonably necessary to deter the Commission from engaging in this sort of misconduct.”
While DEBT Box was quick to publicize its “monumental victory,” Shelby emphasized that the sanctions were limited to the TRO, not the allegations contained in the SEC’s complaint against DEBT Box. As such, they “should not be construed as offering any views on the underlying merits of the case.” The court also denied the SEC’s motion to dismiss the complaint without prejudice.
Schadenfreude overload
While the SEC’s case against DEBT Box may not be dead (yet)—and the SEC is said to be “reviewing” Shelby’s ruling—the blistering legal rebuke did not go unnoticed by other companies/individuals in the regulator’s crosshairs.
Paul Grewal, chief legal eagle at the Coinbase (NASDAQ: COIN) exchange, quickly celebrated the SEC’s comeuppance, tweeting excerpts from the ruling. Grewal noted that since the SEC is a taxpayer-funded agency, the SEC had “just foisted a bill onto every one of us for their litigation misconduct.”
Coinbase is hardly an impartial bystander here, as last summer, the SEC charged Coinbase with selling unregistered securities. Coinbase’s defense took a hit earlier this month when a federal court ruled that some of the tokens Coinbase offered to the public met the definition of a security under the Howey test.
That isn’t the only front on which the exchange is battling the SEC. On March 11, Coinbase
filed a petition with the U.S. Court of Appeals for the Third Circuit to review the SEC’s
December 2023 rejection of Coinbase’s request for “a new regulatory framework” for digital assets. The SEC said at the time that new rules were “currently unwarranted” because tokens aren’t so special that they can’t fit within existing financial regulations.
Coinbase asked the Third Circuit to vacate the SEC’s December order and “direct the agency to begin a long-overdue rulemaking process.” The appeal centers on Coinbase’s claim that the SEC violated the Administrative Procedure Act—the legislation governing the development and issuance of regulations by federal agencies—by failing to approve specific ‘crypto’ regulations.
This week, a flurry of amica curiae briefs was filed by those sympathetic to Coinbase’s cause, including the Paradigm venture capital group (founded by Coinbase Co-Founder Fred Ehrsam III), the Texas Blockchain Council, the Crypto Council for Innovation, a Texas-based firm called Lejilex that wants to launch a new exchange called Legit, and the U.S. Chamber of Commerce.
The briefs are largely cut from the same cloth, namely, that the SEC is hurting companies, consumers, and ‘Murica itself by not letting Coinbase flog its digital Beanie Babies without those pesky investor protections the SEC is always on about. Also, tokens aren’t securities, and if we don’t get some digital currency-bespoke regulations pronto, the terrorists win. Or something.
Genesis has a revelation
Lest the DEBT Box case give you pause, the SEC isn’t always so procedurally ham-fisted. On March 19, the SEC announced that bankrupt ‘crypto’ lender Genesis Global Capital has
agreed to pay $21 million to settle the unregistered securities charges filed against it in connection with the Gemini Earn program run by Cameron and Tyler Winklevoss.
Genesis went bankrupt in January 2023 following the series of implosions that rocked the digital asset sector the previous year. The SEC filed suit against both Genesis and Gemini shortly thereafter. Gemini has yet to resolve its SEC entanglement, although last month, it announced the “successful resolution of Earn” following a deal with Genesis that will see Gemini customers receive “100% of their digital assets back in kind.”
Not wishing to upend the Genesis customers’ deal, the SEC’s settlement with Genesis puts the regulator at the back of the line when it comes to payment of that $21 million. Regardless, the settlement prohibits Genesis from making any future claim that its activities weren’t in violation of any securities laws.
That clause is really going to sting when it’s Coinbase’s turn on the scaffold.
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