Everything is a Security

This week, NYAG Letitia James filed a complaint against KuoCoin, a crypto exchange, for various violations of NY law, including running an unregistered commodities and securities exchange, and acting as an unregistered securities broker.

The allegations focus on three different crypto assets: Luna, TerraUSD, and Ether.  In particular, James claims that Ether is both a commodity and a security – the latter allegation necessary to support the claim that Kuo should have registered as a securities broker.

Now, as we all know, the SEC and the CFTC have generally taken the view that Ether is a commodity, not a security, but Ether’s shift to a proof-of-stake model has raised questions about whether Ether’s status should change under federal law.  James highlights the proof-of-stake model in her briefing in support of a petition for a permanent injunction against KuoCoin.  But more interestingly, she argues in the alternative that Ether is a security under New York State’s prehistoric Waldstein test, articulated in In re Waldstein, 160 Misc. 763 (Sup. Ct, Albany Cnty. 1936).  That test says a security is “any form of instrument used for the purpose of financing and promoting enterprises, and which is designed for investment.”

Waldstein has, according to Westlaw, been cited in a total of 32 cases since it was articulated in 1936, and in many of those cases, it’s mentioned but not really applied.  When it is applied, it seems to have been used in conjunction with Howey and/or Reves, and it seems courts often conclude that the instrument under consideration comes out the same way under all tests.  See, e.g., People v. Van Zandt, 981 N.Y.S.2d 275 (Sup Ct., Bronx Cnty. 2014); Xerox Corp v. New York State Tax Appeals Tribunal, 973 N.Y.S.2d 458 (App. Div. Third Dep’t 2013); People v. First Meridian Planning, 614 N.Y.S.2d 811 (App. Div. Third Dep’t 1994); All Seasons Resorts v. Abrams, 68 N.Y. 2d 81 (1986).  But this time, James is using Waldstein in a manner that (might) diverge from how at least federal agencies have interpreted Howey, which begs the question whether New York courts will hold that Waldstein and Howey are different, and/or that Waldstein is still good law.  Mostly, though, this is a lesson for my students that though we focus on Howey and Reves in class, states can have entirely different definitions of what counts as a security for the purposes of state regulation.