Why the SEC wants to sue crypto exchange Coinbase and is this a concern in India

Coinbase announced Lend in June to which the SEC responded by opening a formal investigation. Why the SEC sees Lend as an issue remains largely unclear as no formal response was shared on the same, even with Coinbase. (File Image)

World governments and regulators are currently engaged in a love-hate relationship with cryptocurrencies. While they want to support the rights of citizens to invest in new avenues, the struggle of not being able to regulate decentralised finance is resulting in rather mixed signals on cryptocurrencies and their use cases.

In India, as the cryptoverse awaits a well-defined law on cryptocurrencies, a debate is ongoing over what form of cryptocurrency will be acceptable. Experts largely expect it to be defined as an asset class and to be taxed as such.

Cryptocurrencies have received widespread acceptance. Microsoft and Virgin Atlantic, to name a couple of companies, accept Bitcoin as a form of payment. Most recently, El Salvador accepted Bitcoin as legal tender.

However, the use of cryptos in various forms is still encountering resistance. The latest being Coinbase, the largest cryptocurrency exchange in the United States, which is facing the heat from the Securities and Exchange Commission (SEC), regulator of the securities and capital markets.

On September 7, Coinbase’s Chief Legal Officer Paul Grewal took to a blog to say that the SEC has decided to sue the company over its Coinbase Lend program, and that the company is clueless about the reason for this.

Also Read | The SEC has told us it wants to sue us over Lend. We don’t know why.

What is Coinbase Lend?

Coinbase, which listed on US exchange Nasdaq earlier this year, said that its Coinbase Lend program has been in the works for a few months. Coinbase Lend essentially allows customers to lend their USD Coin (USDC), in return for 4 percent annual interest, which is eight times the national average for savings accounts in the US.

USDC is a form of cryptocurrency that is identified as stablecoin, meaning it is linked to an existing asset, in this case the US Dollar. Stablecoins stay at a fixed value, in line with the asset they are linked to. This lends them stability and results in fewer drastic fluctuations. So, in this scenario, 1 USDC = 1 US Dollar.

SEC’s concerns and Coinbase’s clarifications
Grewal said in his blog post that Coinbase had been engaging with the SEC for the past six months. After responding to the regulator’s questions, Coinbase was told that the SEC considered Lend to involve a security.

Grewal further clarified that the company does not see Coinbase Lend as a security, but took the product to the SEC for the sake of an open dialogue with the regulator.

“Coinbase’s Lend program doesn’t qualify as a security — or to use more specific legal terms, it’s not an investment contract or a note. Customers won’t be “investing” in the program, but rather lending the USDC they hold on Coinbase’s platform in connection with their existing relationship,” Grewal wrote.

He added: “Although Lend customers will earn interest from their participation in the program, we have an obligation to pay this interest regardless of Coinbase’s broader business activities. What’s more, participating customers’ principal is secure and we’re obligated to repay their USDC on request.”

Coinbase announced Lend in June to which the SEC responded by opening a formal investigation. Why the SEC sees Lend as an issue remains largely unclear as no formal response was shared on the same, even with Coinbase.

“Despite Coinbase keeping Lend off the market and providing detailed information, the SEC still won’t explain why they see a problem. Rather they have now told us that if we launch Lend, they intend to sue,” Grewal wrote.

After Grewal made this information public, Coinbase’s stock has tumbled 6.79 percent since September 7.

Why is Coinbase under the regulator’s lens?

Just like peer-to-peer lending, crypto lending enables users to earn on their idle crypto assets.

“If I want to put my cryptocurrency to work, I will lend it through exchanges or banks where I am assured it will remain safe. In return, I can earn interest that can go up to even 15 percent,” explained Kashif Raza, founder of crypto-education platform Bitinning.

Raza believes that the SEC’s response is more a reaction to what can be seen as a threat to traditional investment avenues.

“The interest that Coinbase is offering is much higher than what banks offer. Customers may start looking at this as a better avenue, also because the trust in Coinbase is higher as it is publicly listed and sees huge quarterly trading volumes of $462 billion. This may result in the flow of money from banks to crypto assets to rise substantially,” he said.

The only way to stop this is to disallow such products, he added.

Sathvik Vishwanath, Co-founder and CEO of Unocoin, said: “What exactly has triggered the SEC to respond like this is unknown. Things will be clear once they hopefully issue a statement with the public or with Coinbase. Currently it is just a blanket threat.”

Should Indian exchanges worry?

India has its own share of cryptolending products, so crypto exchanges here will be watching this development closely to see if the Securities and Exchange Board of India (SEBI) follows the same path.

“In India, neither the regulators not the government are seeing cryptocurrencies as a security. They are either viewing it as a currency, an asset class or a commodity. So, lending products in India should not face any issues,” Vishwanath explained.

ZebPay was one of the first exchanges to launch a lending product for select cryptos, offering a return of 10 percent. Avinash Shekhar, Co-CEO of ZebPay, shares Vishwanath’s view. “It is not the same in the Indian context, as we are still awaiting clarity on how cryptos will be treated. As of now we expect them to be treated as a commodity; in that case the question of seeing them as a security does not arise,” Shekhar said.

He is of the view that such matters should be resolved through dialogue between the entities rather than through confrontation.

“They should discuss and debate and arrive at a consensus rather than resorting to a public spat. In India, the government is open to discussion and our processes allow for diverse views to be considered,” he added.