I learnt about the new ‘Statement On Digital Assets And Their Classification And Treatment’ issued by the Nigerian Securities and Exchange Commission (SEC) yesterday from a friend who wanted to understand what the ‘Statement’ means for his business in the Nigerian cryptocurrency space.
On the face of it, the Statement gives us an insight into SEC’s approach towards regulating the rapidly expanding cryptocurrency space. While the Statement clearly establishes SEC’s intention to introduce regulation in the near future, it leaves some other issues needing clarification.
This piece is my attempt at thinking through the Statement and what it might mean for the future of the Nigerian cryptocurrency regulation framework.
First, we need regulation
We are now past the point where we ask if Nigeria’s cryptocurrency space needs regulation; the issue at this point is how to do it. The need to protect consumers and unsophisticated investors in emerging industries is a key driver for creating framework regulations.
As with any emerging industry, especially in finance, the predictable emergence of scams and fraudulent behaviour requires clear regulation to protect investors and ensure safety within markets.
From the stakeholder perspective, investors need clarity on existing legal frameworks before they inject their money. We are already witnessing the exit of Nigerian crypto businesses to more structured jurisdictions due to the absence of existing frameworks. So, surely, the SEC Statement sends a good signal.
The Statement, however, highlights some of the problems regulators all over the world face with regulating crypto-assets.
The classification problem: Is it a bird or a plane?
Crypto-assets present a unique problem for regulators because they exist as hybrids between assets, currencies, securities, and commodities. For context, The United States Treasury categorises bitcoin as a decentralised virtual currency, while its Commodity Futures Trading Commission and the Internal Revenue Service classify it as a commodity and an asset, respectively. In these instances, regulators seek to classify crypto-assets in ways that bring them within their regulatory jurisdictions.
The classification of crypto-assets also differs across countries. The South African Revenue Service classifies bitcoin as an intangible asset. The German Federal Bank recommends using the term “crypto token”. The People's Bank of China has stated that bitcoin “is fundamentally not a currency but an investment target.” For regulators, the classification problem is a special problem because of the jurisdiction issue.
The issue of jurisdiction
Regulators must operate within the scope of the jurisdiction granted to them under the law. To be able to regulate the crypto-assets space, a regulator must show that the space falls within its jurisdiction. The SEC, in the Statement, relies on Section 13 of the Investment and Securities Act, 2007 which grants it powers to regulate investments and securities business in Nigeria. What this means is that the SEC lacks jurisdiction to regulate cryptocurrencies as currencies, mere assets, or mere commodities.
To be clear, the Statement says, “the SEC will regulate crypto-token or crypto-coin investments when the character of the investments qualifies as securities transactions.”
Covering the Field?
“The position of the Commission is that virtual crypto assets are securities, unless proven otherwise. Thus, the burden of proving that the crypto assets proposed to be offered are not securities and therefore not under the jurisdiction of the SEC, is placed on the issuer or sponsor of the said assets.”
What the SEC appears to say with this declaration is ‘we will assume jurisdiction over every virtual crypto-asset until the issuer of the crypto-asset shows us otherwise by showing us that the crypto-asset is not a security’. If this is the case, it makes sense that the regulator seeks to cover every possible field especially as new forms of crypto-assets continue to emerge.
However, the lack of specificity puts all crypto-related businesses in a difficult situation as they automatically fall under the SEC’s jurisdiction until the SEC states otherwise. The burden this places on businesses becomes more obvious when we consider that the CBN is expected to issue its own crypto regulations soon. From an absence of regulation a few days ago, businesses might now be answerable to two regulators with differing compliance frameworks.
An alternative and more reasonable interpretation of the SEC’s declaration is that it applies only to crypto-assets and investment instruments issued specifically by companies to raise funds for a project or business. We are seeing the re-emergence of Initial Coin Offerings by startup founders to fund their projects.
We are also seeing an emergence of online investment schemes issuing crypto-tokens to participants as forms of participation in these schemes. Indeed, by tracking ‘the issuer or sponsor of the said assets’ for explanation as to whether or not the assets qualify as securities, the SEC follows its mandate of regulating issuers of securities within the Nigerian market for the purpose of protecting the investment and securities space. However, this interpretation would mean that businesses offering platforms for exchange of decentralised currencies like bitcoin and ethereum would not fall within SEC’s jurisdiction.
Reasonably, these other crypto trade businesses would fall within the regulatory jurisdiction of the Central Bank of Nigeria since they can neither be classified as ‘issuers’ nor ‘sponsors’ of crypto-assets and they deal with crypto-assets as currencies and means of exchange. If this is the SEC’s intention, greater clarity is needed in its forthcoming regulations.
Who will be regulated?
“Any person, (individual or corporate) whose activities involve any aspect of Blockchain-related and virtual digital asset services, must be registered by the Commission and as such, will be subject to the regulatory guidelines. Such services include, but are not limited to reception, transmission and execution of orders on behalf of other persons, dealers on own account, portfolio management, investment advice, custodian or nominee services.”
This declaration raises the same question earlier discussed. Is the intention really to cover every type of blockchain activity? If this is the intention, the SEC might be stepping out of its jurisdiction. A roadside shop offering bitcoin for cash services could not possibly fall within the SEC’s regulatory remit under the Investment and Securities Act except the SEC intends to classify bitcoin as a security.
If the intention is to cover persons and businesses dealing in any way with crypto-assets which qualify as securities, then the SEC will need to provide more clarity in its forthcoming regulations especially on the types of crypto-assets that qualify as securities.
Clarity at the end?
Towards the end of the Statement, a table classifying virtual digital assets and their treatment by the SEC may provide some relief and clarity for crypto-businesses.
It provides that “Crypto Assets e.g non fiat currencies would be treated as commodities if they are traded on a Recognized Investment Exchange and/or issued as an investment, and is subject to Part E of SEC Rules and Regulations and any other relevant sections and subsequent Rules which will be enacted in future.”
This declaration fully aligns with the remit of the SEC under the law and its likely jurisdictional powers to regulate the cryptocurrency space. It clearly excludes crypto-assets that are neither issued as investments nor traded on a Recognized Investment Exchange from SEC’s regulatory cover. It would be instructive to see how this aligns with the earlier declarations in the Statement and how the SEC clarifies some of these ambiguities in its forthcoming regulations.
The Statement is not a regulation. It is similar to earlier statements issued by the SEC advising Nigerians to be careful with cryptocurrencies. It serves as a signal to the market as we expect draft regulations to be published soon. Hopefully, we will see more clarity in the forthcoming regulations especially on the types of crypto-assets to be covered by SEC regulation and the players like 'issuers' and 'sponsors' who it seeks to pursue.