Lawsuit claims control over most crypto blockchains

Earlier this week, the Securities and Exchange Commission (SEC) buried a very broad and very large jurisdictional claim 69 paragraphs down in a lawsuit over a 2018 initial coin offering (ICO) it claimed was an unregistered securities offering.

The case involves an ICO for SPRK tokens issued by the Sparkster blockchain project. It claimed that a promoter, Ian Balina, organized a pool of around 50 investors for illegal securities. It seeks to order Balina to forfeit all funds earned, and to pay an unspecified fine.

There is nothing ground-breaking about the allegation – the SEC has brought and settled quite a few of these cases, paying millions of dollars in fines and, not incidentally, effectively killing ICOs as a way to finance blockchain development.

What is groundbreaking is the SEC’s assertion of US jurisdiction.

Read more: Lawsuit Proposes US Jurisdiction Over Ethereum

It gives the securities regulator control over transactions on Ethereum – by far the largest blockchain hosting various cryptocurrency projects – and by implication, many if not most other blockchains.

And that logic can apply to any other agency.

It is because of the reasoning. In paragraph 69, the SEC claimed that when US-based investors sent Balina’s pool ether tokens, they “irrevocably committed themselves to the transaction.”

So far so good. But what came next has implications far beyond this case, and possibly beyond securities law.

“At that point, their ETH contribution was validated by a network of nodes on the Ethereum blockchain, which is more closely clustered in the United States than in any other country,” SEC attorneys said in the case. “As a result, these transactions took place in the United States.”

Beyond securities

Not only does the SEC appear to effectively assert jurisdiction over every transaction on Ethereum (and its new incarnation, Ethereum 2.0), which is second only to bitcoin in market capitalization with $158 billion worth of ETH in circulation, it does so over every crypto blockchain where most nodes – the servers that hold a full copy of the blockchain and validate new transactions – are in the US

Which is a good portion of them.

But the precedent could give any government agency jurisdiction over any transaction on such a blockchain — including law enforcement. And such a claim would not necessarily be limited to the US government.

It would be an interesting development for a technology whose proponents argue its distributed nature — anyone can set up an Ethereum node anywhere in the world — makes it effectively beyond the control of any government.

See also: Ethereum 2.0 will not be faster, Vitalik Buterin said. But it will still scale massively

And while that’s not necessarily enough to actively control a blockchain, the issue is strong enough in the crypto community that when a recent Twitter survey of Ethereum token holders asked about node validators complying with censorship requests that US sanctions should have their ether tokens. “burnt” – destroyed – the primary creator of Ethereum blockchainVitalik Buterin, voted yes.

Fwiw I voted X in the poll above

— vitalik.eth (@VitalikButerin) 15 August 2022

Legal aid

A large part of this claim will be strengthened by having a court uphold it, which may happen in the Balina case, as all other parties to the ICO, including Sparkster, have already settled with the SEC.

But Balina said on Twitter on September 19: “Excited to take this fight public. This frivolous SEC charge sets a bad precedent for the whole the crypto industry …rejected settlement so they have to prove themselves.

Excited to take this fight public.

This frivolous SEC charge sets a bad precedent for the entire crypto industry.

If investing in a private sale at a discount is a crime, the entire crypto VC space is in trouble.

Rejected settlement so they have to prove themselves. 💯 pic.twitter.com/lVaqnnsLgT

— Ian Balina (@DiaryofaMadeMan) 19 September 2022

However, other ICO token issuers have made similar promises and eventually pulled out due to the costs. The exception is Ripple, which is currently fighting an illegal securities sales lawsuit in court. But the case is somewhat different because of the blockchain – technically a distributed ledger – itself.

Read more: Ripple Lawyer Critical of SEC Push to Regulate Crypto

Behind all of this is the SEC’s campaign to label almost all cryptocurrencies except bitcoin as a value under its jurisdiction. Others, notably the Commodity Futures Trading Commission (CFTC), have said that ether is not a security.

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