The recent regulatory downturn has been very bad. On June 28, local time, the U.S. Securities and Exchange Commission (SEC) filed a lawsuit against Consensys in the Brooklyn Federal Court in New York, less than two weeks after the SEC notified Consensys that it had ended its investigation into Ethereum 2.0.
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Not registered as a broker
The SEC accused the company of "engaging in the offering and sale of securities" through its digital asset wallet MetaMask and being an "unregistered broker-dealer," and claimed that Consensys earned more than $250 million in fees.
The SEC said Consensys “positioned itself as a venue for buying and selling crypto assets (including crypto asset securities), recommended trades with the ‘best’ value (as Consensys itself stated), accepted investor orders, routed investor orders, processed customer assets, executed trade parameters and instructions on behalf of customers, and received compensation based on trades.”
“ConsenSys failed to register as a broker-dealer and failed to register the offer and sale of certain securities, in violation of the federal securities laws,” the court filing states.
Targeting staking
The regulator claims that Consensys sold thousands of unregistered securities through staking program providers Lido and Rocket Pool, which in turn issued liquid staking tokens called stETH and rETH in exchange for staked assets.
The agency said investors provided ETH to Lido and Rocket Pool, which was then pooled and staked on the blockchain to earn returns that investors might not be able to earn on their own.
The SEC said: "After receiving ETH from investors, Lido and Rocket Pool will issue a new crypto asset to investors, stETH or rETH, respectively, representing the investors' pro rata interest in the stake pool and its rewards." The agency added that Lido and Rocket Pool were sold and offered in the form of investment contracts, which falls within the scope of securities.
The SEC also said Consensys itself “engaged in crypto asset securities transactions” and designated MATIC, MANA, CHZ, SAND, and LUNA as securities, all of which have been designated as securities in past enforcement actions.
“These crypto-asset securities were offered and sold on the Conensys platform from the date of their first offer or sale and continue to be investment contracts and, therefore, securities,” the court document states.
DeFiLlama data shows that Lido and Rocket Pool are the two largest liquidity staking protocols on Ethereum, holding a total of $37.6 billion in staking TVL. After the news leaked, the protocol's native token fell rapidly, with LDO plummeting 12% in 30 minutes.
This is not the first time the SEC has sued a staking service provider. In February, cryptocurrency exchange Kraken settled with the SEC for $30 million and shut down its staking services for U.S. customers following the lawsuit. Another industry leader is Coinbase, which has been fighting the SEC's argument in court that staking is a security.
Do the allegations hold water?
Factory Labs CEO Nick Almond said the SEC’s argument for forcing open-source crypto wallets to register as broker-dealers is wrong.
“For me, it’s about custody — the degree of sovereign control that users have over their assets,” he said. “If they don’t have custody of their funds at all, they’re not a broker-dealer.” Traditionally, a broker-dealer is a party that trades securities on behalf of others.
For example, according to the official definition of the US SEC, "a broker-dealer is any person engaged in the business of buying and selling securities for the accounts of others", but MetaMask's Swap service is essentially a "robot" controlled by users who want to execute their own trades.
This view is consistent with the interpretation of U.S. District Judge Katherine Failla, who dismissed similar allegations by the SEC against Coinbase Wallet in the case on March 27. The judge said at the time that since it is a self-custodial wallet and users can control their own funds, neither Coinbase nor Coinbase Wallet can be called a broker.
Tuyo founder Jorge Izquierdo said that Consensys and MetaMask are in the same situation, and he wrote on the X platform that there is no difference between providing non-custodial smart contract support and "providing a UI for any random exchange." The only problem is that Consensys will charge a fee for providing exchange services.
The same applies to the accusation against the MetaMask staking service, which acts as a "middleman" between users and decentralized protocols Lido and Rocket Pool, which do not actually exist. Nick Almond described the staking service as more of a "UI interface."
“The idea that a UI front end is equivalent to a bank or anything like that is kind of silly because anyone can interact with the smart contracts directly and even run the front end locally,” Almond said.
In other words, as long as Ethereum keeps running, MetaMask is just a way to access the protocol, and the protocol will exist indefinitely.
So far this year, the SEC has issued notices, filed lawsuits, or reached settlements with a number of crypto companies focused on Ethereum and DeFi, including ShapeShift, TradeStation, and Uniswap. According to Bloomberg, the agency is also investigating the Ethereum Foundation.
Consensys responded to the new lawsuit by saying: “We firmly believe that the SEC is not granted the authority to regulate software interfaces such as MetaMask, and we will continue to vigorously pursue a ruling on these issues in Texas because they are important not only to our company, but also to the future success of web3.”