On August 28, 2024, the co-founder and CEO of OpenSea, Devin Finzer, said that his company received a Wells notice from the US Securities and Exchange Commission (SEC) threatening to sue the company amid beliefs that the non-fungible tokens (NFTs) on the platform could be considered securities.
A bold statement sent shockwaves through the crypto community as discussions arose over whether NFTs should be considered securities.
What are industry experts saying, and what could a lawsuit mean for the NFT community?
Key Takeaways
- The SEC’s Wells notice to OpenSea signals heightened regulatory attention on NFTs.
- Some could potentially be categorized as securities, reshaping the legal landscape for the entire NFT market.
- Experts are divided on whether NFTs qualify as securities, with some arguing that fractionalized or value-based NFTs might meet the criteria, while others see them as digital collectibles.
- If NFTs are regulated as securities, the focus could shift from creativity and community to financial instruments, potentially stifling innovation in the NFT space.
- NFT creators and marketplaces may need to enhance their legal and compliance frameworks, including more rigorous due diligence and onboarding processes, to navigate potential new regulations.
- Regulation could drive a surge in NFTs tied to real-world assets (RWAs) and utility-driven NFTs.
SEC vs. Crypto: A Never-Ending Battle
The recent news that the SEC has targeted OpenSea with a Wells notice may have come as a surprise to many in the blockchain space. However, the battle between US regulators and the cryptocurrency industry has been ongoing for years.
- In July 2024, the SEC charged Consensys, a blockchain software company, with engaging in the unregistered offer and sale of securities through its service MetaMask Staking.
- In November 2023, the SEC charged Kraken, a US-based crypto exchange, for operating as an unregistered securities exchange, broker, dealer, and clearing agency.
- In July 2023, the SEC charged Celsius, a cryptocurrency platform and Bitcoin mining company, with fraud and the unregistered offer and sale of securities.
However, the SEC’s current focus on the largest NFT marketplace, comes as a first, with the regulator seemingly stepping into uncharted territory.
Finzer said in a statement published by OpenSea on Thursday:
“Cryptocurrencies have long been in the crosshairs of the SEC. But, by targeting NFTs, the SEC is diving into new, uncharted waters, with potentially harmful consequences for consumers, creators, and entrepreneurs alike.”
While a Wells notice does not automatically mean that a lawsuit will ensue it does indicate that the SEC is seriously considering taking enforcement action, thus keeping the industry on its toes.
Are NFTs Securities?
While not all cryptocurrency experts agree with the SEC’s latest statement, some are more inclined to believe that certain NFTs could be classified as securities.
Teddy Ellison, the COO and general counsel of Mojito, a leading platform for NFT commerce and community engagement, told Techopedia that certain NFTs could surely be considered securities.
“It is well accepted amongst legal scholars in the industry that fractionalized NFTs likely are securities. Further, we have seen NFTs released with no utility, for fundraising purposes and with value-based marketing that also likely are securities. Many projects in today’s NFT market have taken the ‘NFT’ technology and used it to create identical bundles of NFTs in large numbers. How many NFTs until it looks and talks like a fungible token? The analysis is complex and there are arguments on both sides.”
Anndy Lian, an inter-governmental blockchain adviser and best-selling author of NFT from Zero to Hero, agreed, citing the Howey Test, a legal standard used by US courts to determine whether a transaction qualifies as an investment contract and, therefore, a security, by assessing if it involves an investment of money in a common enterprise with an expectation of profits primarily from the efforts of others.
“The question of whether NFTs are securities is complex and depends on how they are structured and marketed… NFTs involve investing money, but whether they represent a common enterprise with profit expectations dependent on others’ efforts is less clear.
“Some NFT projects, especially those promising future benefits tied to the NFT’s value, might meet these criteria.”
However, other experts argue that NFTs should not be considered securities when compared to more traditional collectibles such as pieces of art, trading cards, and antiques, which also carry a similar potential for value appreciation over time.
Corey Wright, the CEO of Honeyland, a blockchain-based strategy game, said:
“Key arguments against treating NFTs as securities revolve around their identity as collectibles and their additional functionalities. Many NFTs offer more than just potential economic benefits—they often provide utility, access to communities, or digital ownership rights. Applying a decades-old securities framework like the Howey Test fails to acknowledge the modern digital context and could stifle the innovative potential of NFTs rather than protecting investors.”
Classifying NFTs As Securities Could Be Positive
Speaking with Techopedia, Mojito’s Ellison debunked the overall negative sentiment surrounding the recent news, highlighting that if NFTs are classified as securities, the impact could be positive.
“I believe the impact will be positive in that it will cause NFT projects to look more critically at their goals and structure to bring to market something that is pre-baked legally to be sold as a commodity and not a security.
“For all the NFT projects that are truly unique (such as selling non-fractionalized artwork 1 of 1s) nothing will change as those are clearly not securities, but for the more creative projects looking at fractionalization, loyalty programs or bundling NFTs, they will need to be careful.”
Of course, if the classification of NFTs as securities comes into fruition, creators, marketplaces, and collectors would have to pay much closer attention to the legalities behind purchasing, creating, and selling non-fungible tokens.
Ellison highlighted that:
- Creators would have to figure out how they are planning to sell their IP.
- Marketplaces will need to build much more serious customer due diligence and Know Your Business (KYB) or Know Your Customer (KYC) onboarding processes.
- Collectors should also exercise greater caution and due diligence before purchasing an NFT and determining their risk appetite.
Utility-Driven & RWA-Linked NFTs Could Strive
Naturally, new regulations could also drive a shift in the types of NFTs created.
Lian highlighted that a surge in NFTs tied to real-world assets (RWAs), such as real estate, intellectual property rights, or fractional ownership in businesses, is highly likely since these offer the inherent value and potential for income generation and utility, perfectly aligning with the characteristics of traditional securities.
He added:
“Utility-driven NFTs, granting access to exclusive content, services, or communities, could also gain traction. However, creators would need to carefully structure these offerings to avoid inadvertently creating an expectation of profits based on their ongoing efforts.”
Honeyland’s Wright noted that if the SEC says NFTs are securities the new regulation could truly stifle the innovation with this fundamentally creative industry.
“The focus would likely shift from NFTs as vehicles of artistic expression, cultural significance, and recreational gaming to more financial-focused instruments. This shift would erode the foundational elements of creativity and community that have been central to the rise of NFTs.”
The Bottom Line
As the SEC clarifies its stance on NFTs, the market could likely see a period of adjustment and maturation, Lian told Techopedia.
“While some uncertainty remains, the NFT space will probably evolve in a way that balances innovation with regulatory compliance. We can expect to see platforms adapting to meet disclosure and registration requirements, leading to a more secure and transparent marketplace.”
The classification of NFTs as securities could also bring a much more mainstream group of investors into the industry, who previously might have hesitated to get involved amid regulatory ambiguity.
However, stricter regulations could also present the space with a number of challenges, especially for smaller creators and platforms.
Even so, the new regulation would show how the NFT market is positioned to become more integrated into the existing financial system, with a greater focus on compliance and investor protection.
Source: https://www.techopedia.com/are-nfts-securities-or-collectibles
Anndy Lian is an early blockchain adopter and experienced serial entrepreneur who is known for his work in the government sector. He is a best selling book author- “NFT: From Zero to Hero” and “Blockchain Revolution 2030”.
Currently, he is appointed as the Chief Digital Advisor at Mongolia Productivity Organization, championing national digitization. Prior to his current appointments, he was the Chairman of BigONE Exchange, a global top 30 ranked crypto spot exchange and was also the Advisory Board Member for Hyundai DAC, the blockchain arm of South Korea’s largest car manufacturer Hyundai Motor Group. Lian played a pivotal role as the Blockchain Advisor for Asian Productivity Organisation (APO), an intergovernmental organization committed to improving productivity in the Asia-Pacific region.
An avid supporter of incubating start-ups, Anndy has also been a private investor for the past eight years. With a growth investment mindset, Anndy strategically demonstrates this in the companies he chooses to be involved with. He believes that what he is doing through blockchain technology currently will revolutionise and redefine traditional businesses. He also believes that the blockchain industry has to be “redecentralised”.
