The SEC’s Crypto Crackdown: Here’s What Advisors Should Know

Many advisors will need to take steps to protect themselves, said wealth management crypto compliance expert Steve Larsen.


Illustration by RIA Intel

Last Tuesday — just a day after the Securities and Exchange Commission sued Binance, the world’s largest crypto exchange, for mishandling customer funds — the SEC announced a separate lawsuit against Coinbase Global for violating securities laws by selling securities and without registering as a broker.

In the filings against Binance, the SEC declared that 10 crypto tokens, including popular tokens like Solana and Polygon, were securities. In the Coinbase lawsuit, the SEC expanded the list to exclude six additional tokens.

The actions will have a chilling effect on crypto adoption within wealth management, according to Steve Larsen, co-founder of the Certified Digital Asset Advisor designation, president of the Crypto-focused RIA Columbia Advisory Partners, and founder of Defi Steward, a platform that provides investment advisors a compliant way to bill and trade crypto on behalf of clients.

“One of the things at the top of every advisor’s list is to not get sued. So, if there’s regulatory uncertainty, most of them will just stay away until that is cleared up,” Larsen said. “However, I still feel that crypto is inevitable. It is just way too efficient and solves way too many problems to go away. And also, the rest of the world isn’t doing it. All that the SEC is doing is putting U.S. companies in the U.S. financial system further behind.”

But there are steps advisors can take now, he said.

Larsen sat down with RIA Intel to talk about what advisors need to know and do, given the SEC’s recent actions.

Responses have been edited for clarity and length.

In wealth management, who does this affect?

I think that it affects all RIAs doing business in crypto, and specifically, those that are effecting transactions in crypto and not just giving advice. It does affect almost every custodian and all exchanges. The SEC is saying that anybody who offers one of the listed tokens is not following the law. By suing Coinbase, they’re basically including anybody with a similar structure, which is nearly every exchange.

Were you surprised by the lawsuit?

Not at all. So, earlier in the year, the SEC issued what’s called a Wells Notice, which is basically saying you’re about to be sued. We knew this was out there pending; we just didn’t know when the timing was, what the suit was going to be about, and what it was going to look like. But it was inevitable.

What do you think advisors should know about these lawsuits?

There are a few things that they should know.

First of all, if they are using Coinbase or Binance, or any company that functions similarly, they may need to update their regulatory documents to reflect that there is now more regulatory uncertainty. And they may need to disclose that there is litigation pending that has yet to be resolved against the vendors they’re using.

While most of the industry feels that this lawsuit is baseless and Coinbase will win, advisors still need to show that they are aware of what’s going on. That they understand the issues and that they understand the risks and choose to move forward.

Secondly, I think it’s time for compliance officers to just go back and double-check their process for adding new crypto vendors. How are you vetting them? What type of regulatory scrutiny do you put them under? What boxes do they have to check? This is particularly a concern because the same agency that is going after Coinbase is also the agency that conducts our examinations as SEC-registered RIAs. Because we better believe that following the heels of this, the SEC future will put heavy scrutiny on the firms using crypto and the process they use to determine these vendors. So, if they come in and say, “Hey, our bosses think that Coinbase is an illegal exchange,” RIAs better have the reasons why they don’t think that is the case and be able to document it.

A lot of advisors have stuck to advising on Ethereum or Bitcoin. The SEC has put out a lot more guidance around those two tokens not being a security. Are you worried that the SEC might expand future regulations to include these two tokens?

Yeah, absolutely. What we’re seeing is a big turf war. The SEC wants to declare every digital asset a security so that they can regulate it and potentially regulate it out of existence. However, they have already approved a Bitcoin futures ETF, which, during that process, had to admit that Bitcoin is a commodity, not a security. So, the odds of Bitcoin being clawed back as a security is very limited. Ether is the big one that is still that’s still up for discussion. The SEC would love to claw it back in, but they’re going to have a hard time doing it.

So, knowing that these lawsuits are underway and knowing that there is potential future regulation, what should advisors do or how can they prepare?

I think the number one thing is to stay educated. Stay updated and follow what’s going on. Know the difference between proposed or pending rules and final rules because there’s a difference. There’s nothing wrong with managing crypto for clients and trading crypto for clients. There’s nothing to indicate that you can’t do that today. However, the SEC has lots of proposed rules and lawsuits like this Coinbase one that would change that. So, stay informed.

The other thing I would recommend is enhancing the due diligence process. Advisors should put in extra time documenting the thought process behind what technology they are using, what coins or tokens they’re recommending, and how they’re delivering that advice to clients because there’s a likelihood it will be scrutinized by an examiner at some point. All advisors involved in crypto should operate under that assumption.

And this is not just for advisors who are managing crypto on behalf of clients. Any advice on crypto, even if they’re saying “stay away from crypto,” is still considered giving advice. It’s good to have a written basis for and written research for why they’re advising on any investment, whether they’re saying “do it” or saying “stay away from it.”

At the heart of this conflict is the question of whether crypto is a security or a commodity. So, what real effect does that have on the individual investor, whether or not they’re working with an advisor?

Well, the irony is that most of the rules the SEC is proposing in the lawsuits make it more likely for an investor to not work with an advisor, and it makes them more likely to do it on their own, and not be protected and not have a fiduciary help them do it properly. So, they’re more likely to get scammed and more likely to lose money because of this. Advisors have training and experience, and they have the systems in place, the insurance, and the licensing to help investors navigate this asset class. So, none of this really affects retail investors from doing whatever they want — all the SEC is doing is eliminating professionals from helping investors do it.

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