What To Know About Binance, Coinbase, and the SEC

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June 9, 2023

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The SEC went after Binance and Coinbase. Crypto itself may be about to change.

Binance and Coinbase are the first and second largest cryptocurrency exchanges in the world, processing billions of dollars in transactions every day. On June 5 and 6, the US Securities and Exchange Commission (SEC) filed charges against Coinbase and Binance respectively, alleging a number of financial crimes. In this article, we’ll break down the allegations, how Binance and Coinbase have responded, and what’s next.

What happened to Binance and Coinbase?

The United States Securities and Exchange Commission (SEC) sued Binance, Coinbase, and Changpeng Zhao (CZ), CEO of Binance. The SEC is the US’s enforcement agency for financial crimes and chief financial regulator. The SEC has officially accused Binance and Coinbase of multiple violations of United States securities law. The two companies must now defend themselves in a jury trial or settle the allegations with the SEC.

What were Binance and Coinbase accused of?

Binance faced the more damning allegations of the two, totaling 13 alleged violations. CEO Changpeng Zhao was also specifically charged, which did not occur for Coinbase. Several of these concern the management of Binance.US, a supposedly separate American spinoff created after previous regulatory scrutiny in 2019. The key claims were:

Zhao and Binance claimed US customers were barred from Binance.com but secretly allowed wealthy Americans to continue trading on it.
Zhao and Binance secretly controlled Binance.US operations while claiming it was independent.
Zhao and Binance illegally accessed and misallocated customer funds, including funneling them to a CZ-owned entity called Sigma Chain.
Binance’s holding company misled the public about trading controls while Sigma Chain made manipulative trades to inflate Binance’s value.
Binance and Zhao commingled investor assets and sent them to Merit Peak Limited, another Zhao company.

These allegations of willfully misleading the public and SEC and intentionally mishandling customer funds are particularly severe. Coinbase was not charged with this type of malfeasance.

Binance was also alleged to be:

operating unregistered securities exchanges, broker-dealers, and clearing agencies
offering the sale of unregistered securities in the form BNB and BUSD tokens, certain lending products, and staking services

Coinbase’s complaint was limited to five charges, versus Binance’s thirteen. Coinbase’s charges focused on:

What do these charges mean?

Both Coinbase and Binance were alleged to be offering unregistered securities, Coinbase through staking-as-a-service and Binance through staking-as-a-service, BUSD and BNB tokens, and lending products.

Securities are fungible financial instruments which hold value, generally categorized as equity (shares of a common enterprise), debt, or a hybrid of the two. In the United States, securities are governed by the Securities ACt of 1933 and the Securities Exchange Act of 1934, and regulated by the SEC. The Howey Test is often used in court to determine if a financial transaction meets the definition of a security: if there is “investment of money in a common enterprise with a reasonable expectation of profits to be derived from the efforts of others,” it is a security.

Both Coinbase and Binance operated staking programs, which allowed customers to deposit tokens with the exchange. The exchanges staked these tokens on proof-of-stake blockchains to earn rewards, which were shared with customers. In these complaints, the SEC is alleging that these programs are securities which need to be registered. Thus, Coinbase and Binance were offering unregistered securities.

The SEC also alleges that Binance’s native token BNB and its BUSD stablecoin (which was issued in partnership with Paxos and shut down in February after a regulatory action by New York State) were also unregistered securities. Furthermore, SOL, ADA, MATIC, FIL, ATOM, SAND, MANA, ALGO, AXS, and COT were other tokens listed in the complaints as unregistered securities. This suggests that the SEC may view many or all cryptocurrencies as securities.

Both Binance and Coinbase were accused of simultaneously being:

exchanges (marketplaces for buyers and sellers of securities)
brokers (entities which process trades for clients)
dealers (entities which trade on their own behalf, often combined with a broker)
clearinghouse (intermediaries between buyers and sellers, which settle payments and finalize trades)

Each of these require specific licenses and have various obligations under US law, as well as rules about commingling these operations. If the SEC’s contention that these products were, in fact, securities, these activities could also be held against Binance and Coinbase. Shockingly, according to the SEC court filing, a chief compliance officer at Binance was caught telling a coworker, “We are operating as a fking unlicensed securities exchange in the USA bro.”

How did Binance and Coinbase respond?

Coinbase’s Chief Legal Officer Paul Grewal issued the following statement:

“The SEC’s reliance on an enforcement-only approach in the absence of clear rules for the digital asset industry is hurting America’s economic competitiveness and companies like Coinbase that have a demonstrated commitment to compliance. The solution is legislation that allows fair rules for the road to be developed transparently and applied equally, not litigation. In the meantime, we’ll continue to operate our business as usual.”

*Coinbase CLO Paul Grewal. Credit: Fortune.com*

Binance issued a lengthy statement on their website, noting that they had “actively cooperated with the SEC’s investigations” and “engaged in extensive good-faith discussions to reach a negotiated settlement to resolve their investigations, but “the SEC abandoned that process and instead chose to act unilaterally and litigate.” They added that these activities “should not be the subject of an SEC enforcement action” and “intend to defend [the] platform vigorously.” Binance concluded with concern over the future of the industry in the United States amid “regulatory tug-of-war” and are prepared to fight.

Changpeng Zhao took to Twitter, tweeting and retweeting numerous criticisms of the SEC and its chair Gary Gensler, and urged his followers against “FUD” (Fear, uncertainty, and doubt).

What happens now?

In line with the charges brought, the immediate consequences sought against Binance are more severe than Coinbase.

In Binance’s case, the SEC requested “that the Court order temporary and

preliminary injunctive relief,” including:

asset freezes
verified accounting
repatriation of assets
preservation of documents
and more.

Effectively, the SEC is saying that they do not trust Binance and CZ to cooperate with this case and are seeking additional protections. Binance was especially displeased with this aspect of their complaint, saying the charges “should not be the subject of an SEC enforcement action, let alone on an emergency basis.”

Additionally, the SEC seeks to

permanently prevent Binance and Zhao from committing further violations of securities law
disgorge ill-gotten gains (give the money back)
ban the defendants from interstate commerce
impose fines
collect relief money for investors

Notably, the SEC is not seeking to ban Coinbase from interstate commerce (as it is attempting to with Binance), and limits its penalties to the specific violations around the staking service and operating as an exchange, broker-dealer, and clearinghouse.

In Coinbase’s complaint, the SEC seeks to:

permanently prevent Coinbase from violating securities law
disgorge ill-gotten gains
impose fines
collect relief money for investors

Now, with both companies signaling their intent to fight the charges, a legal fight will ensue, which will likely take years.

How did this affect markets?

Following the announcement, markets braced for a huge crypto sell-off -- which never quite came.

Bitcoin fell from $27,300 on June 4 to $25,500 on June 6, but recovered to $26,400 at the time of writing for a 3-4% loss -- hardly the cataclysmic FUD CZ warned about. Ethereum told a similar story, falling from $1900 to $1800, then recovering to $1840.

*Bitcoin recovered from its initial selloff. Source: coinmarketcap.com*

More significant damage was done to the two companies themselves:

Coinbase stock ($COIN) fell from $64.55 on June 2 to $51.60 on June 6. But on June 7, Cathie Wood of ARK announced a $20 million buy, and the price rose to $53.80.

BNB token, which was specifically mentioned in the complaint, tumbled from $306 to $263 in the days after the announcement, shaving $6 billion off the market cap.

*BNB token fell significantly on the news. Source: coinmarketcap.com*

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Other casualties of the news were tokens like Solana and Polygon, which were specifically named as examples of unregistered securities. Solana fell 16% and Polygon fell 14% in the ensuing days -- meaningful dips, but a far cry from the chaos which was feared. Binance also suspended a number of trading pairs between tokens named in the complaint and BTC and BUSD.

What does this mean for crypto in the United States?

TL;DR: We don’t know.

The crypto community has been holding its breath about major SEC action, following years of smaller moves, such as labeling Gemini’s staking program and Ripple’s XRP token unregistered securities, and settling a similar case against the Kraken exchange for $30 million.

Now, the SEC has come after the two biggest exchanges and made its case clear: in the SEC’s view, a wide swath of cryptocurrencies are securities, and crypto companies must follow existing laws in the United States. However, the SEC does not make securities law, but enforces it; these cases will likely head to court where the SEC’s view will be tested. In the meantime, these actions will likely put a chill on new ventures. Patrick Daugherty, a former SEC official and crypto lawyer, said “An SEC allegation is not a judicial judgment. It is not a binding legal determination. But neither can it be ignored.”

Now, the best hope for true regulatory clarity on crypto in the United States is a draft bill in the House of Representatives. The bill would provide a pathway for exchanges to register with the SEC and create a blueprint for truly decentralized tokens to be classified as commodities, which have different requirements than securities and are regulated by the CFTC, not the SEC. However, the bill does not seem to have drawn bipartisan support -- and this emerging scandal may not make it any easier.

For now, we may just need to sit back and watch.