Ripple Tokens Sold to Public Are Not Securities, Judge Says

A federal judge ruled that the Ripple Labs Inc. token is a security when sold to institutional investors but not the general public, a long-awaited decision that was widely hailed as a victory for the crypto industry over the SEC.

(Bloomberg) — A federal judge ruled that the Ripple Labs Inc. token is a security when sold to institutional investors but not the general public, a long-awaited decision that was widely hailed as a victory for the crypto industry over the SEC.

US District Judge Analisa Torres in New York on Thursday said that the crypto firm’s sales of its XRP token to sophisticated investors met the test for an investment contract under federal securities law because those buyers “would have understood that Ripple was pitching a speculative value proposition for XRP with potential profits.”

But the judge said that didn’t apply to programmatic investors, meaning the broader public buying crypto on exchanges. She said there was no evidence that such investors could parse the many statements made by Ripple about XRP. The judge said many statements cited by the Securities and Exchange Commission in its suit against Ripple may not have been shared with the broader public.

XRP soared on the ruling, almost doubling to as much as 94 cents Thursday afternoon, with many industry figures and experts highlighting the judge’s ruling on secondary-market crypto sales as win. Whether cryptocurrencies are securities has long been a major question hanging over the industry, which has argued it’s not subject to the jurisdiction of the SEC and other regulators.

Read More: Cryptos Jump as XRP Ruling Boosts Hope for Narrowed SEC Scope

SEC spokesperson Scott Schneider said the agency is “pleased that the court found that XRP tokens were offered and sold by Ripple as investment contracts in violation of the securities laws.” The regulator was continuing its review of the decision, he said.

Paul Kisslinger, a former SEC trial attorney now at Lewis Brisbois, said the ruling was a possible blow to the regulator’s jurisdiction because of most of the crypto community were likely retail investors, rather than hedge funds or other institutional investors. 

“Judge Torres’s ruling, finding that XRP tokens are a security for institutional sales, but not for public sales, will have a propound impact on cases going forward,” Kissingler said. “If adopted by other courts, especially appellate courts, this will certainly narrow the SEC’s enforcement jurisdiction involving exchanges.”

The ruling comes as the SEC has aggressively targeted crypto firms for allegedly selling unregistered securities. Earlier on Thursday, the SEC sued Celsius Network Ltd. and its former chief executive officer, Alex Mashinsky, who was also charged with fraud by federal prosecutors in New York. It came down in the middle of a conference in the case the SEC filed last month against crypotcurrency exchange Coinbase Global Inc.

Read More: Ex-Celsius CEO Mashinsky Charged in Latest DOJ Crypto Case

David Brill, former deputy general counsel of bankrupt crypto broker Voyager Digital, said Torres’s ruling may be a “watershed moment for the classification of digital assets.” He said it boded particularly well for Coinbase.

“It undermines the SEC’s position that tokens sold on Coinbase’s platform were sales of unregistered securities,” Brill said.

The SEC sued San Francisco-based Ripple and top executives in December 2020. It accused the company, co-founder Christian Larsen and Chief Executive Officer Bradley Garlinghouse of misleading investors in XRP by selling more than $1 billion worth of the tokens without registering them, depriving investors of information about the cryptocurrency and Ripple’s business

The SEC had argued for the application of the so-called Howey test, named after a 1946 Supreme Court ruling, to determine if XRP was a security. Torres applied the Howey test in finding institutional sales of the token fell under securities laws, which the SEC highlighted in its statement on Thursday.

Read More: Fight to Regulate Crypto at Crossroads as Ripple Ruling Looms

“The court agreed with the SEC that the Howey test governs the securities analysis of crypto transactions and rejected Ripple’s made-up test as to what constitutes an investment contract,” Schneider said.

But Torres also used the Howey test to find XRP sold on exchanges weren’t securities. Under Howey, an investment contract — which would be considered a security — exists if there’s an “investment of money in a common enterprise with a reasonable expectation of profits to be derived from the efforts of others.” She said that didn’t apply to sales of XRP made through exchanges, which were often blind transaction made by trading algorithms. 

“This could be a case of the SEC should be careful what it wished for,” said Jeff Blockinger, the former chief counsel for decentralized exchange Vertex Protocol, “meaning that the court agreed with them on a technical interpretation of Howey but also limited Howey’s application to everything under the sun.”

Garlinghouse claimed victory in a tweet on Thursday.

The SEC’s case against Ripple will still proceed on the institutional-sales claims, though any trial may be delayed by appeals of Torres’s ruling.

The case is SEC v. Ripple Labs Inc., 20-cv-10832, US District Court, Southern District of New York.

–With assistance from David Pan.

(Updates with comment from the SEC)

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