Are Cryptocurrencies Securities? The Howey Test and Its Implications

The popularity of cryptocurrencies raises issues concerning their financial and regulatory status, which can be confusing. One of the many questions asked is whether cryptos are securities. We will answer this question by considering the SEC’s guidelines on what makes a security, the implication, and the possible future of cryptocurrencies.

What Makes a Security?

Securities are generally considered negotiable financial instruments with a monetary value that companies or the government can issue. They are in the form of bonds, stocks, derivatives, treasury bills, debentures, and mutual funds. The security issuer usually issues them for fundraising purposes. Securities are usually well-regulated and require investors to be informed about their potential risks.

Cryptocurrencies as Securities

The question of what extent cryptocurrencies are regarded as securities has been debated and remains somewhat unclear. In fact, exchanges and crypto developers take extra caution to ensure they keep operating as permitted by the law in various financial jurisdictions.

Although cryptocurrencies are largely unregulated, crypto owners and exchanges in many jurisdictions are still not permitted to carry out their operations as they wish. Instead, they have to operate under financial laws and requirements, which differ from jurisdiction to jurisdiction.

The Howey Test

The Howey Test was proposed by the United States Securities and Exchange Commission (SEC) to assess which offerings qualify as securities. According to the Howey Test, for a transaction or an asset to be regarded as a security, it must satisfy the following: “investment of money in a common enterprise with a reasonable expectation of profits to be derived from the efforts of others.”

Let’s examine what the Howey Test means by examining how cryptos fit into the four main criteria.

1. There Must Be an Investment in Money

This criterion is a straightforward one. It simply means that an investment in an asset should involve money before such an asset can be regarded as a security. Investing in cryptocurrencies involves investing money because different investors invest their money.

2. In a Common Enterprise

This criterion necessitates that the investment in money should be toward the same enterprise. This way, the investor’s success is linked to the success of the company or entity invested in. A common enterprise can also be a form of third-party expertise.

To some extent, no third-party expertise is needed to profit from investing in cryptocurrencies. However, if we consider crypto lending services, where clients lend out their money and expect a fixed or variable profit based on how an exchange uses it, we may see a form of third-party expertise involved in the process.

3. With an Expectation of Profit

If the investment aims to make some profit, it passes the third test. However, if it is aimed at other things, like storing wealth, it will likely not be classified as a security.

Many crypto investors aim to make a profit, which makes them meet this criterion. On the other hand, there are some exceptions, for example, stablecoins. Stablecoins like USDT are used as a store of wealth, not for profit. Thus, stablecoins can be classified as more of a currency than security.

4. To Be Derived From the Effort of Others

If an investor puts in a lot of effort for the success of the investment, then it is most likely not a security. This standard seeks to separate the investor from the third party, as they are expected to play different roles.

You may conclude that cryptocurrencies do not pass the fourth test, as no third party can be said to be involved in ensuring investors’ profits. Since, as in the case of stocks, no company is making an effort to make investments work. Rather, it is more about collective market sentiment and investor activities.

On the contrary, stablecoins have active community members who ensure their stability, and for this, they may pass this test. In addition, if we consider cryptocurrency staking and lending services, where an exchange or protocol puts your money to work for profit, we may conclude that there are some third-party involvements.

Are Cryptocurrencies Securities Or Not?

As much as the SEC spells out its criteria, confusion about what cryptocurrencies to register as securities remain.

For example, the SEC charged BlockFi for not registering its interest rates account as a security since it involves an investment in money, and investors are promised varying interest based on exchange performance. The platform did not accept or deny the allegation, which cost it $100 million.

Another issue is the SEC’s ongoing lawsuit against Ripple Lab. Ripple’s offense was releasing XRP, the native token of the Ripple network, for investment purposes and to raise funds for the company without registering the token as a security. The long-standing issue has also stunted the growth of XRP.

Coinbase has also been probed for listing cryptocurrency assets that the SEC sees as securities. The assets include AMP, DDX, RLY, XYO, POWR, KROM, etc. The issue also forced the US-based arm of Binance to delist the AMP token.

Cryptocurrency regulation is treated differently in various parts of the world, with some countries outright banning it and others not fully agreeing with the solutions it offers. They are legal in some other countries where a lot of work is also ongoing to determine their proper status.

Implications of Cryptocurrency’s Unclear Regulatory Status

One of the major implications of cryptocurrency’s unclear regulatory status is that it makes the idea of crypto being widely regulated seem a little far-fetched. As long as they are not regulated in one jurisdiction, making a case for their legal status in others will always be challenging. It is an issue that also affects how cryptocurrencies are used and traded.

As different governments attempt to regulate crypto, they also consider general market risks involved in cryptocurrencies. For example, the irreversibility of blockchain transactions, that is, not being able to undo whatever crypto transactions you have completed, which is a system not used in traditional finance.

In addition, major parts of crypto are still prone to scams, hacks, and manipulation. The prices and value of cryptocurrencies are still very unstable, making it challenging to protect investors sufficiently.

Cryptocurrencies Are Promising Despite Looming Regulation

Despite the regulatory issues and risks involved in cryptocurrencies, we have seen them rise and become more mainstream. Thousands of cryptocurrencies have been introduced, and Bitcoin alone had a total market capitalization of more than $1.2 trillion in November 2021.

A growth graph

Furthermore, the crypto market, especially the Bitcoin market, has survived a series of bear markets and negative investor sentiments. Therefore, many investors are also optimistic about its chances of surviving the ongoing bear market.

Cryptocurrencies are also increasing in use cases globally. Blockchain technology revenue is also expected to have grown to $39.5 billion in 2025, according to Statista. With all of these, we expect to see the crypto industry continue to grow. Perhaps financial regulators would be left with no choice or see more reasons to adopt crypto.

Cryptocurrencies Are Not Securities

Cryptocurrencies are not generally regarded as securities. However, the nature and use of many cryptocurrencies overlap SEC securities definitions. Furthermore, many cryptos are issued like stocks, and their way of generating funds for new projects is similar to an initial public offering.

The SEC continues to lead the drive for some regulatory control over various cryptocurrencies, expecting them to be registered as securities. Still, with the frequent controversies in the crypto world, we don’t know what results such an expectation would yield.

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