SEC settles with BlockFi crypto lending platform

The SEC announced a settlement of charges against BlockFi Lending LLC (BlockFi) with respect to its BlockFi Interest Account (BIA) product. 

According to the SEC:

• investors lent crypto assets to BlockFi through the BIAs
• BlockFi used investors’ crypto assets to make investments, including loans to institutional investors and
• investors received interest paid monthly in crypto assets. 

The SEC’s order found that the BIAs were unregistered securities and charged BlockFi with failing to register its offering, violations of negligence-based antifraud provisions of the securities laws and violating the Investment Company Act by operating as an unregistered investment company.

In settling this matter with the SEC, BlockFi agreed to stop offering BIAs to new investors or accepting additional assets in the BIAs by current investors, and to not violate these securities laws in the future. BlockFi also agreed to pay $100 million in penalties and pursue registration of its BIA crypto lending product. $50 million of those penalties are fines to be paid to 32 states to settle similar charges, including Texas and Alabama.

BlockFi’s parent company, BlockFi Inc., has also publicly announced that it intends to register under the Securities Act the offer and sale of a new investment product, BlockFi Yield, with the SEC (or take steps such that it is no longer required to register.) 

This case provides insight into how the SEC evaluates crypto lending platforms, and how the agency will scrutinize crypto platforms engaging in similar activities.  Notably, this case says nothing about any particular token or crypto asset; BlockFi is an exchange and does not have a native token.

At issue in this case was the structure of the BIAs. BIA investors received interest at variable rates from the exchange in payment for lending their crypto assets to BlockFi. BlockFi generated returns by deploying those crypto assets in loans, lending money to investors and investing in equities and futures. The SEC based its fraud allegations that BlockFi made false and misleading website statements on these collateral practices and risks related to BlockFi's lending activity.

Instead of using only the Howey test that has permeated its actions against ICOs and other offerings of tokens, the SEC concluded that the BIAs were notes that fell under the definition of securities using the Supreme Court’s analysis in Reves v. Ernst & Young and were an investment contract under the Howey test. Therefore, the BIA securities should been, but were not, registered.

Commissioner Peirce’s dissent raises some interesting points on whether the securities regulatory framework is the appropriate framework for getting customers transparency around the terms and risks of crypto lending products, particularly forcing this platform to register the securities and register as an investment company. She also emphasizes that while the SEC wants crypto companies to come talk to them, it still hasn’t committed to working with such companies “to craft sensible, timely and achievable regulatory paths.”  

This is the first case of its kind brought against a crypto lending platform although it follows the rationale of the SEC’s much earlier case against Prosper Lending. 

The SEC is investigating other similar crypto platforms so we anticipate more similar cases to come. This decision has important implications for other DeFi platforms.

For more information on the SEC's approach and its Reeves analysis, please contact the authors, Deborah Meshulam and Mark Radcliffe.