New US legislation could set out crypto pathway from security status to commodity

A new draft bill from senior House Republicans in the U.S. Congress seeks to provide a path for a digital token to go from being treated as a security to a commodity as part of an effort to provide more flexibility and brighter guidelines for digital assets within in the country.

The discussion draft released by House Financial Services Committee Chair Patrick McHenry, R-N.C., and House Agriculture Committee Chair Glenn ‘G.T.’ Thompson, R-Pa., is the latest effort to better illuminate the road around how digital assets fit into existing U.S. financial law, while creating accommodations for the unique aspects of blockchain-based tokens.

Among other provisions, the bill would give a clear definition as to when a project is sufficiently decentralized to no longer have its tokens qualify as investment contracts, a longstanding point of tension for crypto projects in the U.S.

McHenry and Thompson intend the draft to be the latest step in negotiations with House Democrats and Senate counterparts. Committee staff familiar with the legislation made clear they want the draft bill to advance talks, with the hope of having a new law this year governing the market structure of digital assets in the U.S., rather than this version being a take-it-or-leave-it document.

What the reception will be from other policymakers and the administration of President Joe Biden remains to be seen and will be key to the future prospects of the legislation’s chances of passing. U.S. financial regulators, led by Treasury Secretary Janet Yellen, called for new laws around digital assets last year.

A groundwork for passage 

Committee staff have been in touch with the offices of several senators active with crypto legislation to lay the groundwork for passage through that chamber of Congress in addition to the House. That outreach has included contact with staff for Senate Agriculture Committee Chair Debbie Stabenow, D-Mich., and Sen. John Boozman, R-Ark., the top Republican on that committee, and Sen. Tim Scott, R-S.C., the top Republican on the Senate Banking Committee and a newly announced presidential candidate.

In a brief interview with The Block, Sen. Cynthia Lummis, R-Wyo., expressed interest in the McHenry and Thompson-led effort, saying she and Sen. Kirsten Gillibrand, D-N.Y., were pausing reintroduction of their own bill to see what came in the House Republican document.

While security investments like stocks and bonds require disclosure documents for transparency, some of the loudest voices in the digital asset industry argue that existing securities laws should not apply to them with rules surrounding the pathway from a centralized founding and capital raise to a decentralized platform emerging as a key point of contention. Rampant fraud in the space, meanwhile, has resulted in the Securities and Exchange Commission cracking down with well over 100 successful enforcement actions.

The legislation under negotiation in the U.S. House of Representatives is an effort to create a more stable, investor-friendly market structure for digital assets in the U.S. while addressing concerns that securities laws could be too rigid for the more worthwhile crypto projects. 

Decentralized definition

The bill creates a definition of a decentralized network, in which a token could transition from being treated as a security to a commodity, an investment category with lower disclosure requirements.

Under the current language of the bill, which is subject to further negotiation and change, a decentralized network would be one in which no person had control for at least a year prior, no issuer or decentralized organization owned more than 20 percent of the tokens affiliated with the network, and no marketing or issuance for the project was done in the three months prior to certification as a decentralized network.

Any token issuances made within 12 months would also have to be to end users.

Private sales of tokens for capital raises would still be allowed to help raise funds for projects well before the point at which they could be reclassified as decentralized. Those private sales, which already happen, would be allowed under the same framework as private securities offerings.

The SEC and Commodity Futures Trading Commission, as federal markets regulators, would determine which projects qualify as decentralized. If a project became concentrated again, the SEC could take away the decentralized classification.

If the bill as written were to become law, trading platforms for most tokens would also have a streamlined path to becoming registered as alternative trading systems with the SEC. Payment stablecoins are exempted from securities designation, and McHenry and Rep. French Hill, R-Ark., have drafted legislation to create a comprehensive framework for that class of digital assets.