SEC Issues No-Action Relief from Registration Requirements to Ethereum-Based Digital Coin | Practical Law

SEC Issues No-Action Relief from Registration Requirements to Ethereum-Based Digital Coin | Practical Law

The SEC issued a no-action letter in response to a request from IMVU, Inc., stating that it will not recommend enforcement action if, based on the representations in its request letter, IMVU offers and sells VCOIN, an ERC-20 digital asset that is transferable peer-to-peer on the Ethereum blockchain, without registration under Section 5 of the Securities Act.

SEC Issues No-Action Relief from Registration Requirements to Ethereum-Based Digital Coin

by Practical Law Finance
Published on 05 Dec 2020 • USA (National/Federal)
The SEC issued a no-action letter in response to a request from IMVU, Inc., stating that it will not recommend enforcement action if, based on the representations in its request letter, IMVU offers and sells VCOIN, an ERC-20 digital asset that is transferable peer-to-peer on the Ethereum blockchain, without registration under Section 5 of the Securities Act.
On November 19, 2020, the SEC Division of Corporate Finance issued a no-action letter in response to a request from IMVU, Inc., stating that it will not recommend enforcement action if, based on the representations in its request letter (IMVU request letter), IMVU offers and sells VCOIN, which is transferable both on and off of IMVU’s platform, without registration under Section 5 of the Securities Act and does not register VCOIN as a class of equity securities under Section 12(g) of the Exchange Act, in reliance on IMVU's "opinion as counsel" that VCOIN is not a security.
VCOIN will be an ERC-20 digital asset that is transferable peer-to-peer on the Ethereum blockchain. However, IMVU will not promote or support listing or trading VCOIN on any third-party trading venue.
The letter notes that the relief is subject to the following:
  • IMVU will not use proceeds from the sale of VCOIN to finance its upgrade, which has been fully developed and will be fully functional and operational immediately upon its launch and before any VCOIN is sold.
  • VCOIN will be immediately usable for its intended purpose at the time it is sold.
  • IMVU will impose specified limits on VCOIN purchases, conversions, and transfers.
  • VCOIN holders will be subject to KYC/AML checks when they establish open wallets and thereafter on an ongoing basis.
  • VCOIN will be made continuously available in unlimited quantities and at a fixed price, and IMVU will always generate enough supply of VCOIN to maintain VCOIN’s fixed price.
  • IMVU will not promote or support listing or trading of VCOIN on any third-party trading platform.
  • IMVU will market and sell VCOIN to users solely for consumptive use as a means of exchanging value on, and in connection with its platform.
  • IMVU will require users who purchase VCOIN from IMVU to affirm that, among other things, they are acquiring the VCOIN for consumptive use and not for speculative purposes.
IMVU will sell VCOIN to users through the platform in the same manner that it currently sells credits. Users will be able to log into their account on the platform, input payment information, and purchase VCOIN from IMVU directly on the platform using fiat currency. IMVU will also allow users to earn VCOIN from IMVU by participating in specified activities on the platform. These are the only ways that VCOIN can be purchased or obtained from IMVU.
Users will be able to hold the VCOIN they purchase or obtain from IMVU in a digital wallet that IMVU makes available on the platform. IMVU will market VCOIN together with the platform to users and the general public. It will not market VCOIN to the public, directly or implicitly, as an investment. IMVU will advertise VCOIN solely as a digital asset intended for platform-related use, and in the same manner as it currently markets credits.
According to the IMVU request letter, VCOIN will have the following characteristics:
  • Fixed price. IMVU will sell VCOIN on the platform at a fixed price of $0.004 per VCOIN or 250 VCOIN per $1.00, which is four times the price at which IMVU sells credits. A holder of VCOIN will also be able to convert VCOIN into fiat currency by selling VCOIN to IMVU at the same fixed price. IMVU will continuously sell and repurchase VCOIN at this fixed price, subject to certain transaction fees and limitations noted in the letter.
  • Unlimited supply. IMVU will initially create 12.5 billion VCOIN, which is approximately equivalent to the implied value of credits currently in the platform’s virtual economy. While IMVU believes that this initial VCOIN supply should satisfy foreseeable user demand, IMVU will always generate enough supply of VCOIN to maintain VCOIN’s fixed price.
  • Limits on purchase, conversion, and transfer. IMVU will implement limits on purchase, conversion and transfer of VCOIN to deter user fraud. Consistent with existing controls, IMVU’s compliance team will assign limits on an individual basis through risk-based due diligence and assessed fraud risk. Although these limits are intended principally to deter fraud, IMVU believes that they will also deter investment and speculative activity, since they are broadly designed to prevent users from buying or using VCOIN for purposes unrelated to the platform’s virtual economy. These limits, and the specific effect each will have in encouraging and discouraging user behavior, will be as follows:
    • Daily purchase limits: IMVU will place a daily purchase limitation of up to $500 per day on each user’s account. The purchase limit amount of $500 reflects the approximate upper band of daily credit purchases on the platform, adjusted to account for the possibility that users will use VCOIN more actively than credits. The Purchase limit is designed to encourage purchases of VCOIN for use in connection with the platform and discourage users from purchasing VCOIN for fraudulent purposes or off-platform uses.
    • Holding period: After a user purchases VCOIN from IMVU, IMVU will restrict such VCOIN to the user's closed wallet and in-platform use for a specified holding period of up to 45 days, after which point the user will be able to transfer the VCOIN to an open wallet. Like the purchase limit, the holding period is designed to encourage purchases of VCOIN for consumptive use in connection with the platform and discourage users from purchasing VCOIN from IMVU for fraudulent purposes.
    • Exit limit: In addition to the holding period, IMVU will limit the amount of VCOIN that users may move from their closed wallet to their open wallet per month (exit limit). IMVU will assign exit limits to each user of up to $20,000 per month. The exit limit is designed to discourage users from purchasing VCOIN from IMVU for fraudulent purposes.
    • Fiat conversion limit: IMVU will only convert VCOIN held in open wallets into fiat currency and will limit the amount of VCOIN that a holder will be able to convert into fiat currency per month (fiat conversion limit). IMVU will assign a fiat conversion limit to each VCOIN holder who maintains an open wallet of up to $20,000 per month. The fiat conversion limit will enable VCOIN holders to convert reasonable amounts of VCOIN into fiat currency, in line with VCOIN amounts that such holders earn in the platform, while discouraging persons from acquiring VCOIN merely for the purpose of selling it to IMVU for fiat currency. IMVU will maintain adequate fiat currency reserves to satisfy fiat conversion requests at any given time, considering fiat conversion limits then in effect. Such fiat currency reserves will be held with a US depository institution that is insured by the Federal Deposit Insurance Corporation (FDIC), and IMVU will not provide any holders of VCOIN with legal recourse against the fiat currency reserves.
Issuers of digital assets have been provide with an additional fact pattern to look to for guidance in the issuance of digital assets without registration under the Securities Act. The fact pattern provided in the IMVU request letter is detailed, and could prove useful in designing similar conforming unregistered offerings of digital assets, especially those for use in restricted online platforms. It does not, however, provide a significant divergence from prior SEC analysis of unregistered offerings of digital assets (see Practice Note, SEC Regulation of Digital Assets).