HomeBusinessFinanceSEC Action Against Genesis And Gemini Could Kill Both Firms

SEC Action Against Genesis And Gemini Could Kill Both Firms

The U.S. Securities and Exchange Commission (SEC) filed a lawsuit Thursday alleging that crypto exchange Gemini and crypto lender Genesis Global Capital sold unregistered securities. The Gemini CEO Tyler Winklevoss disparaged the SEC action in a Twitter thread calling it a “manufactured parking ticket.” He did not address the potentially catastrophic implications to his firm should the SEC prevail in court.

The stakes are high for both Gemini and Genesis as the SEC complaint seeks permanent injunctive relief, disgorgement of ill-gotten gains plus prejudgment interest, and civil penalties. If the SEC argument is that the ill-gotten gains include the interest earned over the life of the alleged unregistered securities plus the outstanding principal, then perhaps these amounts alone may be enough to sink both firms – and that is before the addition of potential civil penalties.

The product in question is the formerly popular Gemini Earn program. The structure of the product was that Gemini acted as an agent facilitating customer deposits of cryptocurrency with Genesis for the promise of interest payments, and Gemini received an agent fee that reached up to 4.29%.

In November 2022, Genesis announced that it would not permit Gemini Earn customers to withdraw their cryptocurrency, and approximately $900 million in investor assets from 340,000 investors has since been essentially frozen.

Securities Law And Howey

Cryptocurrency Earn programs are generally accepted by the regulatory agencies to be securities under the Howey Test. The now bankrupt firm BlockFi paid a $100m fine in relation to their distribution of a similar product, and the two other bankrupt firms Celsius
and Voyager were also under investigation from multiple states for securities violations resulting from their offerings. The SEC details how the Gemini Earn product meets the definition of a security.

In the U.S. all securities must be registered with the SEC prior to distribution, or must be issued subject to an exemption from registration. Failure to adhere to these requirements is a big deal.

Banks Exempted From Registration

Under the legal decision Reves v. Ernst & Young, 494 U.S. 56, 64–69 (1990), banks are generally excluded from the requirement to register securities with the SEC because of the highly regulated nature of the banking industry, or as described in the written complaint, the availability of an alternative regulatory regime that “significantly reduces the risk of the instrument” for investors other than the securities laws, “thereby rendering application of the Securities Acts unnecessary.”

Who Operated Gemini Earn?

A crucial point to understand the nature of the legal complaint is then which firm actually offered the program? The document filed by the SEC lists the responsibilities and activities of both firms as it pertained to the program, and the SEC alleges that Gemini had a limited role essentially acting as agent for the product.

Whether Gemini or Genesis managed and offered the product has significant implications.

Genesis is registered with FinCen as a money service business, and Gemini Trust Company, LLC is New York Limited Purpose Trust Company and supervised by the New York Department of Financial Services.

One could question whether the Gemini charter, as a limited purpose trust company, meets the same alternative regulatory regime standard as a full-service FDIC-insured depository institution, but as the facts are specified by the SEC, such a determination is not necessary.

The SEC is alleging that Gemini only acted as an agent for the program, and Genesis operated Gemini Earn. This implies that Reves is not applicable for Gemini. As for Genesis, the FinCen registration falls well short of the standard required to be covered by Reves.

Both Firms Are Liable

The SEC believes that the Gemini Earn product was an unregistered security offered by Genesis, and Gemini acted as an agent placing the securities with investors. Should this contention be proven in court then both firms will have violated securities laws, and both firms have potentially significant exposure.

Far more than Tyler Winklevoss’s parking ticket, it appears like the SEC is inviting both firms to a trip to the car crusher.

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