NYAG delivers on promise to rein in unregistered crypto lending with new guise – Fin Tech

On September 26, 2022, New York Attorney General Letitia James (“NYAG”) took definitive action following her warning last year that crypto-lending platforms must register with her office or face legal action, filing a complaint against Nexo Inc. and Nexo Capital, Inc. (collectively “Nexo”) alleging that Nexo violated New York’s Martin Act and Executive Law by acting as an unregistered securities and/or commodities broker in the state. Specifically, the complaint alleges that Nexo improperly offered and sold securities and commodities by allowing users to buy, sell, deposit, trade, borrow against, and earn interest on virtual currency while not registered. The complaint further alleges that Nexo made various misrepresentations regarding its operations. NYAG is seeking an injunction, rescission, restitution and a permanent restraining order prohibiting Nexo from buying or selling securities or commodities in New York.

On November 18, 2021, the NYAG issued a press release stating that it had asked two crypto-lending platforms to cease their alleged unregistered and illegal activities in New York, and provided a copy of an October 18, 2021 cease-and-desist letter with the entity’s name edited together with the release. In its press release regarding the Nexo action, the NYAG disclosed that Nexo was one such recipient of a cease-and-desist letter in October 2021. As such, the NYAG has fulfilled her promise in last year’s press release to take action to prevent violations of the New York- the law. The action serves as an important reminder that companies operating as crypto exchanges or offering interest-bearing crypto products in the state should ensure that they are properly registered under New York law and that their public statements are accurate.

New York General Business Law (“GBL”) § 352,
a seq., also known as the Martin Act, requires securities and commodity brokers to register with the Attorney General prior to any offer to buy or sell securities or commodities. Companies that engage in persistent illegalities or fraud may also be considered in violation of New York’s Executive Law § 63(12). Misinformation made in connection with securities and commodity transactions may constitute separate fraudulent acts under GBL § 352-c and Executive Law § 63(12).

NYAG alleges that Nexo sold securities or commodities while unregistered in connection with its “Exchange” marketplace and Earn Interest Product (“EIP”). The exchange allows users to buy, sell and exchange a wide range of cryptocurrencies via a website and mobile app, with Nexo charging approximately 1% on each transaction. EIP allows users to receive interest on crypto they deposit with Nexo. Nexo then pools users’ EIP assets with “similar Nexo-owned assets” and distributes those assets to generate revenue from which it pays users interest and keeps the difference as profits, according to the complaint. The income-generating activities allegedly include: (1) betting, lending, arbitrage, and the provision of liquidity on decentralized financial platforms, (2) lending to retail customers and institutional borrowers, (3) investing in selected virtual currencies, and (4) entering into exchanges – and option transactions.

Notably, the failure-to-register allegations do not distinguish between Nexo’s securities, commodities, broker-dealer activities, instead stating only that Nexo acted as an “unregistered securities broker or dealer and/or commodity broker-dealer.” This imprecision makes it difficult to determine which specific behavior required registration and when. It also limits the utility of the complaint as an educational tool for industry bystanders considering whether their activities may require registration.

NYAG further alleges that misleading statements made by Nexo gave users the false impression that Nexo did not operate in New York, their investments were low risk, and they were dealing with a company that was fully licensed and operating in compliance with applicable law, despite operating illegally in New York. The NYAG claims that this conduct violates the anti-fraud provisions of both the Martin Act and the Executive Law.

Last year, the NYAG announced that her office would target unregistered cryptocurrency platforms that offer interest-bearing crypto products within state borders. The action against Nexo appears to be in furtherance of this directive. In light of these developments, crypto companies should carefully consider whether their activities require securities and/or commodity broker-dealer registrations and vet public statements to ensure accuracy and avoid a run-in with New York’s top cop.

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