Is crypto a security? Part III: Secondary Market Trading

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Tokens themselves are not always security

The following opinion editorial was written for Kelman.Law by Alex Forehand and Michael Handelsman.

A central development in modern cryptography is the growing recognition that, as independent digital objects, tokens are not automatically securities. What constitutes a security is not the tokens themselves, but the investment contract, i.e. the arrangement, scheme, or promise regarding the distribution of the tokens.

Several courts now uphold this The most notable difference is SEC vs. Ripple Labswhere the court held that the sale of XRP on the secondary market was not a securities transaction because the purchaser was not making the purchase based on Ripple’s management efforts. Legal significance is important. If a contract is a security rather than a token itself, security status is not automatically attached to all downstream transactions.

So far, the SEC appears to be adopting this position as well. SEC Commissioner Paul Atkins recently explained how “Certain tokens may have been sold as part of a security investment contract.“But he believes.”Most crypto tokens currently traded are not securities themselves”

Atkins also suggested that tokens that were once securities could evolve into something other than securities. explain:

“The network has matured. Code is shipped and management is decentralized. The role of the issuer diminishes or disappears. At some point, buyers are no longer dependent on the issuer’s requisite management efforts, and most tokens are now traded without any reasonable expectation that any particular team is still in control.”

This distinction reshapes the way secondary markets are analyzed. This means that buying and selling tokens on an exchange may not constitute a securities transaction if it is decoupled from the original investment contract and the expectations underlying that contract.

In such cases, the exchange facilitating the trade may avoid classification as a stock broker or exchange because the trade no longer resembles an investment contract. The focus of this investigation is whether the link between issuer-driven value expectations and token trading persists, rather than the mere existence of tokens.

When securities issues arise due to secondary transactions

The fact that tokens are not inherently securities does not mean that all secondary market transactions are secure. Those evaluating secondary transactions should focus on whether the economic realities of the transaction continue to reflect the investment contract even after the token enters general circulation.

The questions examined are whether buyers are still explicitly or implicitly dependent on the issuer’s efforts to increase the value of the token, whether promotional statements and ongoing marketing campaigns continue to emphasize team-driven growth, and whether the issuer maintains a significant role in “ecosystem management” such as financial operations, token issuance schedules, network upgrades, or commitment to a public roadmap.

Also read: Is crypto a security? Part II: Utility Tokens

It is also important to consider whether the buyer and developer possess asymmetric information. If insiders know substantially more about a project’s health, progress, or risks than public market purchasers, that disparity may support the finding that the purchaser is reasonably dependent on the issuer’s efforts.

Importantly, the court acknowledged that tokens can evolve, moving from a security-like instrument during an initial issuer-dependent stage to a commodity-like asset once decentralization has significantly reduced dependence on the core team. However, regulators have only recently begun to embrace this dynamic view, and uncertainty remains as to when or if such a transition will occur.

Staying informed and compliant in this evolving landscape is more important than ever. Whether you are an investor, an entrepreneur, or a company involved in cryptocurrencies, our team is here to help. We provide the legal counsel you need to navigate these exciting developments. If you think we can help, please schedule a consultation here.