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🔶 SEC Sues Binance: What You Need to Know

Unregistered securities, puppet orgs, and an $11m yacht!

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The BEN Team
June 06, 2023

Read time: 4 minutes | Total savings in this newsletter: $700

GM fam! BEN Beats here with today’s issue 🥁 Here’s what we got:

  • Free Tickets to the Web3 Gaming Expo 🎟️

  • SEC Sues Binance: What You Need to Know 🔶

  • Trending News 🗞️

  • Upcoming Events & Promo Codes 💫

  • New Remote Jobs 💼

  • Resources to Get Crypto Smart 🧠

  • Co-Founder Connect 🤝

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🔶 SEC Sues Binance: What You Need to Know

Markets are down on the news that the SEC formally charged Binance and their founder Changpeng Zhao (CZ) for allegedly breaking securities law and putting US investors at risk.

You can read the full filing, but here is the summary in plain English:

The SEC alleges that Binance was

  • acting as an exchange, broker-dealer, and clearing agency without registering with the SEC

  • making crypto asset securities available for sale to US investors

  • running Binance.US as a puppet for Binance to continue offering these services to US customers

  • commingling and diverting customer funds into other entities without disclosure, such as transferring out money to a third entity and buying an $11m yacht

  • wash-trading and self-dealing to artificially inflate trading volumes

In addition, nine crypto tokens were named as securities alongside BNB, including Solana, Cardano, Cosmos and more.

Section 1. Statutory and Legal Framework

This section summarizes the Securities Act of 1933 and the Securities Exchange Act of 1934 and why they are important. Basically, they’re supposed to make sure investors have all the correct information when purchasing a security and to stop sketchy behavior from exchanges.

Section 2. Background on Crypto Assets and Crypto Trading Platforms

This section defines terms like “crypto assets”, “blockchain”, “crypto wallets”, “consensus mechanism”, and “initial coin offerings”. It goes on to explain how crypto asset trading platforms make crypto assets look and act as securities – showing order books, trading volumes, price charts, etc.

Section 3. Allegation that Binance provided exchange, broker-dealer, and clearing agency services to US investors

This section likens Binance to an exchange, broker-dealer, and clearing agency, given that:

  • Binance facilities trading crypto assets in a way that resembles securities, with order books, real-time bid and ask prices, trading volumes, order matching, trading history, and OTC trading services.

  • Binance holds and controls customer funds in order for customers to use Binance.

  • Binance clears and settles customers’ trades by debting and crediting everyone’s accounts in their own internal ledger.

  • Binance receives compensation in the form of trading fees.

The SEC claims that Binance solicited customers in the US before implementing KYC controls. After adding KYC, they knowingly continued to allow US investors to use the platform.

Section 4. Allegation that CZ and Binance established Binance.US as an independent entity when it really wasn’t.

In 2019, Binance kicked US customers off its platform and set up US-based entities BAM Management and BAM Trading to launch Binance.US as a way to continue serving them.

Ideally, Binance.US was supposed to be independent enough to shield Binance from getting in trouble with the SEC. However, CZ kept at least 81% ownership over the entities controlling Binance.US.

The SEC alleges that, in practice, Binance did whatever it wanted with Binance.US.

We highlighted in our newsletter last week that former insiders accused Binance of commingling funds.

Now, according to the SEC, Binance was constantly diverting and mixing together funds, even spending it on personal expenses. CZ was transferring out user funds from Binance and Binance.US to his other companies like Merit Peak and trading with that money.

The SEC highlights that in 2021, $190m was transferred out from Binance.US to Sigma Chain, also owned by CZ, which then spent $11m on a yacht.

Section 5. Allegation that BAM Trading and Binance provided exchange, brokerage services, and clearing agency functions to US customers.

Same issue as before, but now with Binance.US failing to register with the SEC.

This section also explains how Binance continued offering their services to US customers through Binance.US, rather than Binance.US offering these services as an independent entity.

For example, Binance.US used Binance’s proprietary matching engine software and settlement technology, shared employees, and leaned on Binance’s liquidity and funding.

Section 6. Allegation that BAM Trading and BAM Management defrauded and made misleading statements to investors.

This section first claims that Binance.US for a long time lacked the proper surveillance technology to detect or block wash trading.

Then, the SEC claims that Binance themselves participated in the wash trading and inflating trading volumes through entities like Sigma Chain, controlled by CZ and operated by Binance employees. The SEC includes messages from Binance.US team members pushing Sigma Chain to provide more trading volume during key periods such as right after a token launch.

Section 7. Allegation that Binance and BAM Trading Engaged in Unregistered Offers and Sales of Securities

The SEC flagged many of Binance’s features as security offerings:

  • BNB is called a security with the claim that people buy BNB and hope that Binance will work to improve the value. Binance’s profits are used to buy back and burn tokens, which links the success of the Binance exchange with the token price.

  • BUSD is called a security because of the “BUSD Rewards Program” that offers an APY for users who stake their BUSD.

  • “BNB Vault” and “Simple Earn” are called securities because they pool together user assets and rely on the Binance team to make decisions on how to make returns with the funds, such as staking and lending, and pass on an APY to the user.

Section 8. Allegation that Binance and Binance.US offered other “crypto asset securities”

It’s not just Binance-related assets being targeted. The SEC also casually calls other assets available on Binance securities, mentioning by name Solana (SOL), Cardano (ADA), Filecoin (FIL), Cosmos (ATOM), The Sandbox (SAND), Decentraland (MANA), Algorand (ALGO), Axie Infinity (AXS), and COTI (COTI).

Basically, the SEC is saying that Binance was priming people to treat these tokens as investments instead of buying them for their intended utilities on their respective platforms.

The SEC has also said that Binance has listed assets that the SEC has called securities before, including AMP (AMP), Augur (REP), TerraUSD (UST), and Tron (TRX).

Lastly, the SEC pats themselves on the back, saying that they only need to prove that at least one of the above tokens needs to actually be a security for them to proceed with the Exchange Acts claims.

The SEC goes on to summarize why they claim some of the tokens are securities.

For example, Solana filed with the SEC multiple times that the SOL tokens it issued out via SAFTs (Simple Agreement for Future Tokens) were exempt from registration. However, the SEC argues that SOL the people and entities that bought SOL “reasonably expect” that the value of their SOL will go up from Solana Labs’ efforts to make SOL successful.

Another example, Cardano. The SEC alleges that ADA holders mainly view ADA as an investment and expect to profit from the efforts of the Cardano Foundation, IOHK, and Emurgo, three companies that spearhead development and growth of the Cardano platform.

The complaint goes on to talk about the other tokens, but the pattern is clear:

  • The companies that launched these tokens did so in a mix of pre-sales, private sales, initial coin offerings, SAFTs, initial exchange offerings, and Dutch auctions, which muddled up the utility token narrative by mixing in terminology and behaviors commonly associated with investments.

  • These companies and their team members make repeated statements and marketing material that primed users to view the tokens as investments. For example, tweeting about price action, announcing exchange listings, talking about APYs from staking, etc.

  • Token models that include “burns a portion of fees” link the value of the token with the success of the business.

A deleted tweet by Sandeep Nailwal, CEO of Polygon, that was included in the SEC complaint

Section 9. Allegation that Binance and BAM Trading were required to register as an exchange, broker-dealer, or clearing agency, but they didn’t

The final section before the summaries basically describes how, because of what was covered above, Binance and BAM Trading should have registered with the SEC but didn’t.

Final Thoughts

It’s important to thoroughly look over the SEC’s claims and allegations against Binance, as some are legitimately concerning, such as commingling funds or wash trading. The weakest allegations are labelling other ecosystem’s tokens as securities, since each of those claims will have to be addressed in separate charges.

The SEC has made little effort to evolve securities law to take into account world-disruptive technologies like blockchain. Nor have they provided clear guidelines for founders to launch tokens under the existing frameworks.

While securities laws are meant to protect investors, they also make it very expensive for new founders to launch projects, restrict investors’ freedoms to invest how they see fit, and put the SEC in a monopolistic position as the ultimate arbitrator of what is and isn’t allowed. The SEC is clearly not the right entity to have that much power, considering they failed to stop FTX, Voyager, Terra, Celsius, BlockFi, or Genesis from collapsing and/or defrauding investors.

On a positive note, while there are many regulatory headaches ahead of us, that hasn’t stopped the crypto space thus far. There are plenty of good actors that are addressing these concerns and working towards healthy regulation that stops bad actors without stifling innovation.

Meme Break 😌

Trending News 🗞️

  1. MoonPay executives cashed out $150 million in equity just months before crypto crash. They said the money would grow the business, instead Soto-Wright bought a mega-mansion.

  2. Atomic Wallet Users Hacked for $35m. We were warned in 2022 that this could happen!

  3. Crypto Twitter’s weekend filled with scams, hacks, and fake events. Including a fake OpenAI token and an entirely fake Uniswap event.

  4. Multichain’s MULTI soars 30% as cross-chain bridge services resume. Just a few days ago everybody was freaking out with rumors that the CEO was arrested.

  5. FTX claims it owes $3.9 billion, while Genesis says it owes nothing. Jeez just pass around the blame!

  6. How Bitcoin could offer a safe haven in the face of a global inflation crisis. This new market report is definitely worth reading.

  7. Google searches for ‘crypto’ fall to 2020 levels as BTC sentiment neutral. This is good, means we could be at the bottom.

  8. Do Kwon out on bail in Montenegro once again after court dismisses prosecution appeal. South Korean authorities are still trying to extradite him.

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