Coinbase and SEC Dig in With U.S. Judge on Whether Securities Law Applies to Listings

• A judge in the U.S. District Court for the Southern District of New York is now deciding whether or not to toss out the Securities and Exchange Commission's case against Coinbase.
• The ruling will hinge on whether the transactions in any of a dozen crypto tokens should be classified as an unregistered security.

The U.S. Securities and Exchange Commission (SEC) case against Coinbase delves into a ton of complexity, but before anything else, a judge has to decide whether transactions in about a dozen tokens traded on the U.S. exchange were securities.

Both sides – the SEC and Coinbase – agreed in a Wednesday court hearing that the tokens themselves aren't securities. The SEC lawyers argued that each trade amounted to an investor buying into a token ecosystem in which the purchaser is hoping to share in its gains, and as long as a single one of those transactions could be considered an investment contract, Coinbase has broken securities law. But the company said these are secondary-market trades in which no contract is in place, so they can't be securities.

Coinbase is seeking to talk Judge Katherine Polk Failla of the U.S. District Court for the Southern District of New York into throwing out the SEC's accusations that it's breaking the law. Failla decided against making a decision from the bench and didn't explicitly reveal which way she'll rule as she went through 14 pages of questions that challenged the positions of both the regulator and the business over more than four hours.

Her eventual decision – expected in the coming weeks, though she didn't hint at a timeline – will join a mixed bag of other recent rulings from her fellow judges in the same court. It'll either reinforce the SEC's pursuit of crypto platforms as unregistered exchanges dealing in unregistered securities, or it'll add to the agency's legal losses on this front and further strengthen the industry's view that the regulator is overreaching. Either way, similar SEC cases against such exchanges as Binance and Kraken could also turn on Judge Failla's view.

"It's the same computer code no matter which one of us has it," said Patrick Costello, a lawyer with the SEC arguing that the purchaser is getting a contract however they obtain the digital assets. "The token is the key that gets you into the ecosystem. The token is worthless without the ecosystem."

William Savitt, an attorney with Wachtell, Lipton, Rosen & Katz representing Coinbase, contended that an "investment contract" – a security defined by the so-called Howey test – actually requires a contractual obligation to be in place between the token issuer and the buyer.

"There has to be a statement that is meant to convey an enforceable promise," Savitt said. "If you don't have that, then you don't have a contract."

He called this "a pure question of law."

The judge was careful not to signal her view, just acknowledging at one point, "This is a hard question."

Costello also sought to counter warnings that the SEC's position could expand the definition of securities to collectibles such as art or trading cards, saying those assets are missing the central ecosystem.

"Collectibles have their own value," he said. "There's no way for somebody to make a baseball card more valuable."

Judge Failla addressed a couple key rulings on SEC crypto cases, including the agency's loss against Ripple and its win in the Terraform Labs action.

She said Judge Jed Rakoff's finding in Terraform that crypto asset transactions were securities was "not a shock to me." But that didn't involve the tokens being listed on a secondary exchange. "Terraform is quite different from the facts of this case."

Failla also admitted some signifiant hesitation about invoking the "nuclear option" of the so-called Major Questions Doctrine that Coinbase contends should head off the SEC's actions until Congress has had a chance to establish crypto laws.

Crypto insiders embraced the judge's seeming skepticism of some of the agency's views at the hearing.

"This entire hearing has been very skeptical of the SEC’s claims," Justin Slaughter, the policy director at Paradigm, posted on X.

"This is a fairly extreme case of a regulator wanting to have its cake and eat it too," Dave Rodman, founder and managing partner at Rodman Law Group, told CoinDesk. "After all, the SEC deemed Coinbase sound enough to list on a US stock exchange, and it appears that it is backpedaling."

Read More: Coinbase's SEC Clash Faces First Major Test as Judge Weighs Longshot Dismissal