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Federal judge: US securities law covers cryptocurrency fraud

If you’ve been involved in the e-coin revolution, you know that the legal landscape has been changing quickly. Cryptocurrency which started out as an anonymous, decentralized bartering tool for geeks has become a major industry. It has led to blockchain technology, which allows for transactions so secure that major banks and even governments are considering adopting it for non-cryptocurrency purposes.

Cryptocurrency has not been regulated by Congress. However, a federal judge in New York recently ruled that cryptocurrency transactions are subject to U.S. securities law, including the Securities Exchange Act.

Some uses of cryptocurrency are illegal

Cryptocurrency is not backed by the money or power of any government. It is “mined” by users who dedicate their computers to solving a specific cryptologic puzzle. Transactions are fast, global, pseudonymous and secure, and there is no gatekeeper to restrict your use.

In the early days, cryptocurrency got a reputation as a tool for criminal enterprises. At the time, the anonymity associated with crypto transactions could not be broken. It wasn’t long, however, before the FBI and other law enforcement agencies managed to crack the code. They began charging people for crimes like conspiracy to facilitate the sale of illegal drugs, money laundering and fraud. Ironically, law enforcement has now found that the blockchain data associated with cryptocurrency create a useful trail of evidence that allows it to “follow the money.”

The law surrounding cryptocurrency remains in flux. Buying and selling drugs is illegal regardless of whether you use cryptocurrency. Laundering money by exchanging it for e-coin is still money laundering. But cryptocurrency itself is not illegal.

In fact, billions of dollars have been legally raised in recent years through “initial coin offerings” that mirror initial public offerings of stock. Today, most cryptocurrency users are law-abiding citizens who are looking for investments, concerned about privacy or just curious.

Are cryptocurrencies currency, commodities or securities?

Although no laws regulating cryptocurrency have been passed by Congress, some recent federal court decisions indicate that e-coins may be subject to existing laws -- although it’s not yet clear which laws apply.

The most recent case involves a New York man who managed to raise $300,000 or more from investors in his cryptocurrencies REcoin and Diamond. According to federal prosecutors, REcoin was advertised as backed by real estate, while Diamond was backed by diamonds. But prosecutors say that neither cryptocurrency was actually backed by those assets.

The man’s primary defense was that REcoin and Diamond are currencies, not securities, and currencies are not subject to the Securities Exchange Act.

The federal judge ruled that federal securities law should be interpreted “flexibly.” This ruling exposes e-coin users to a whole area of law with which they may be entirely unfamiliar. It could also mean that cryptocurrency sellers are obligated to comply with other securities law obligations for publicly traded companies, such as registration with the SEC and mandatory reporting.

The judge did not cite any previous decisions in his ruling. He did note that the SEC has said it considers cryptocurrencies to be securities under some circumstances.

In March, another federal judge in New York held that cryptocurrency can be regulated as commodities.

If you are involved in cryptocurrencies as a seller, a buyer or an investor, you have the right to know exactly how e-coin will be regulated. No actions should be taken against cryptocurrency users until it is clear what is regulated and what conduct could lead to criminal liability.

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