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The Howey Test. Token. A security or not?

Understanding the legal status of cryptocurrencies has become a key challenge for crypto projects. Here comes the Howey Test, a decisive tool developed by the U.S. Supreme Court in 1946. This test allows for a precise analysis of whether a token can be classified as a security. Let's delve into its components, its importance, and whether it's feasible to conduct it independently.

Four pillars of the Howey Test:

1. Investment of Money. This part requires capital investment. A token meets this condition if it is purchased with real money or another asset (e.g., exchanged for another digital asset)

2. Common Enterprise. This aspect focuses on the interdependence among investors. If investors expect profits from collective efforts, this may indicate the existence of a joint enterprise

3. Expectation of Profits. If investors buy tokens hoping for financial gain, mainly if this profit depends on the efforts of third parties, this is a significant indicator

4. Efforts of Others. This factor analyzes whether the token's success depends on the efforts of developers or a management team. If so, the token may be recognized as a security

Why is it important?

For developers and token owners, knowing which laws to follow is crucial. For investors, it's about protecting their investments and understanding potential risks. When a token is recognized as a security according to legislation, obligations, and restrictions, which are imposed on its issuers and traders.

  • Registration and Reporting. Suppose a token is recognized as a security. In that case, issuers must register it with relevant regulatory authorities, like the U.S. Securities and Exchange Commission (SEC). This includes submitting detailed information about the company, product, business plan, and financial reporting

  • Disclosure Requirements. Security issuers are obliged to provide investors with existing and potentially risky information. This includes disclosing financial status, management team, business model, usage of raised funds, etc

  • Investor Protection. Securities legislation aims to protect investors, particularly by combating fraud and false advertising. Issuers who fail to meet these standards may be prosecuted by governmental authorities (e.g., SEC) or those investors

  • Trading and Exchange Listing. Tokens classified as securities may be restricted in trading on certain exchanges. Exchanges wishing to offer such tokens must obtain appropriate licenses/permits and comply with regulations

Self-testing or help of the lawyer?

While the fundamentals of the Howey Test are pretty understandable, its application can be quite complicated in some cases. Considering the complexity and importance of such analysis, engaging a qualified lawyer specializing in securities and cryptocurrency can be an intelligent choice.


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