States seek to block DeFi firm’s interest-bearing crypto accounts - 26 July 2021

Decentralized finance company BlockFi faces enforcement actions in New Jersey, Texas, and Alabama for offering unregistered cryptocurrency products.

Three states have now initiated enforcement proceedings against cryptocurrency lending and trading firm BlockFi, Inc. for alleged violations of state securities laws. In separate proceedings, New Jersey, Texas, and Alabama have each alleged that the New Jersey-based firm’s interest-earning cryptocurrency accounts involve offerings of unregistered, non-exempt securities in contravention of their respective statutes (In re BlockFi, Inc., July 19, 2021 (New Jersey); In re BlockFi, Inc., July 20, 2021 (Alabama); Texas State Securities Board v. BlockFi, Inc., July 22, 2021).

As noted by the New Jersey Securities Bureau in a news release, the actions are occurring against a backdrop of rising regulatory concerns over the proliferation of decentralized finance (DeFi) platforms like BlockFi that seek to provide digital asset investors with analogs to traditional banking and brokerage services.

"Our rules are simple: if you sell securities in New Jersey, you need to comply with New Jersey’s securities laws," said New Jersey Acting Attorney General Bruck. "No one gets a free pass simply because they’re operating in the fast-evolving cryptocurrency market."

Acting Director Kaitlin Caruso of the New Jersey of the Division of Consumer Affairs added: "Platforms like BlockFi may mirror the traditional financial structures that we know and trust, but in reality they can leave investors extremely vulnerable."

Cryptocurrrency interest accounts. As outlined in New Jersey’s summary cease and desist order, BlockFi generates revenue through cryptocurrency trading, lending, and borrowing, as well as engaging in propriety trading. BlockFi funds its lending and proprietary trading offerings by offering interest-earning cryptocurrency accounts.

The order observes that investors in all states except New York may purchase "BlockFi Interest Accounts" by depositing with BlockFi certain eligible cryptocurrencies. BlockFi then pools these cryptocurrencies to fund its lending and proprietary trading. The investors are promised an interest rate "up to 7.5 APY" that is paid monthly in cryptocurrency. Interest rates are subject to change in BlockFi’s sole discretion and may change monthly. Investors may withdraw their digital assets at any time, subject to a maximum seven-day processing time. BlockFi held the equivalent of $14.7 billion from the offering of these accounts.

According to the Bureau, while certain of BlockFi’s loan products appear to be licensed under various state licensing requirements for money services businesses or money transmitters, the BlockFi Interest Accounts are not currently registered with any federal or state securities regulator or exempt from registration, as required by law. The Bureau also claims that BlockFi has failed to disclose to investors that BlockFi Interest Accounts are not currently registered, even though they are securities and should be registered as such. Finally, while the "Disclosure and Complaints" page on BlockFi’s website provides a list of state banking regulators and contact information, BlockFi fails to explain that the New Jersey Department of Banking and Insurance does not license the accounts, or that complaints should be filed with the New Jersey Bureau of Securities.

The New Jersey summary order requires BlockFi and certain named affiliates to cease and desist from offering the BlockFi Interest Account or any other unregistered security in New Jersey or violating any other provisions of the New Jersey Securities Law. The respondents have 15 days to file a written answer and written request for a hearing with the Bureau.

The Texas notice of hearing alleges that the BlockFi Interest Accounts are not registered or permitted for sale in Texas, as required by Section 7 of the Texas Securities Act. The BlockFi Interest Accounts are also not protected by Securities Investor Protection Corporation or insured by the Federal Deposit Insurance Corporation or the National Credit Union Administration. In addition, the Texas action alleges that BlockFi is not disclosing material information to investors, including critical material information about the risks associated with purchasing its unregistered securities. The Texas hearing has been scheduled for October 13, 2021.

The Alabama administrative order against BlockFi alleges that BlockFi Interest Accounts are "investment contracts" that require registration as securities under the Alabama Securities Act. The respondents have 28 days from the date of the order to show cause why they should not be ordered to cease and desist from further violations.

The proceedings are No. SC-2021-0006 (Alabama), and No. 312-21-2938 (Texas). 


Source: CCH

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