DeFi Education Fund Argues in Lawsuit Against SEC Crypto Airdrops Are Not Securities

The DeFi Education Fund claims that airdrops do not involve an investment of money and therefore cannot be considered securities transactions.

Airdrops do not involve capital investment and therefore cannot be considered securities transactions, said the DeFi Education Fund.

The DeFi industry is under increased regulatory scrutiny | Image source: Shutterstock

The crypto industry is taking action and has jointly launched a preventive lawsuit against the U.S. Securities and Exchange Commission (SEC) to fight back against U.S. regulators. This lawsuit highlights the SEC's tough enforcement stance on securities laws.

The DeFi Education Fund filed a lawsuit against the SEC in Texas federal court on Monday, claiming that Texas clothing company Beba’s free airdrop of its BEBA crypto tokens to customers did not violate U.S. securities laws. The lawsuit seeks to have the court rule that Beba’s airdrop is legal and hopefully provide protection for other similar airdrops from SEC prosecution.

The DeFi Education Fund stated in a Texas District Court filing that "Beba has participated in and planned to conduct activities that actually meet the requirements of securities laws, but the SEC has declared them illegal."

Beba did not actually face prosecution by the SEC, but took the initiative to take preemptive measures by citing the Declaratory Judgment Act. Under this law, a party that reasonably believes that it may be subject to unfair enforcement action may seek legal recourse before being harmed.

This aggressive attitude marks a shift in the crypto industry, which in the past has been reactive to the sudden flurry of SEC lawsuits against companies and projects.

Amanda, Chief Legal Officer of DeFi Education Fund "This is really a change of strategy for us," Tuminelli told reporters.

Key to the lawsuit filed by the DeFi Education Fund on Monday is an accusation that the SEC violated the Administrative Procedure Act (APA) by enacting unofficial internal policies regarding cryptocurrencies without public disclosure.

The SEC has maintained that the agency does not need special rules for cryptocurrencies and that the regulator is simply enforcing existing securities laws, saying those laws clearly apply to most cryptocurrency offerings.

"They absolutely have a policy for taking all of these actions, including sending subpoenas and conducting investigations, and because they adopted that policy behind closed doors and refused to write it down, that's a violation of the Executive Order," Tuminelli said. Procedure Act (APA)".

Last month, also in Texas federal court, a group of prominent crypto companies, including Coinbase and Andreessen Horowitz, sued the SEC, claiming the agency had no jurisdiction over much of the crypto industry. The lawsuit marks one of, if not the first, proactive legal actions against federal regulators over their encryption policies.

The SEC has been aggressively pursuing legal action against crypto companies for years. So why are crypto companies now opting for offensive litigation?

"It's not easy to find people willing to sue the SEC," Tuminelli said. "Who's going to say, 'Yes! Let me put myself directly in the SEC's crosshairs and risk them knowing who I am!'"

But at this point, the risks that companies like Beba could face using crypto tokens are so obvious that any tactical advantage may be worth the SEC’s wrath up front.

Historical cases show that the SEC has targeted crypto companies like Beba; in 2018, it sued Tomahawk Exploration LLC for promoting and distributing “TomahawkCoins” even though the company never raised any funds. In 2022, the agency sued Hydrogen Technology Corporation for distributing free “Hydro” tokens for marketing purposes and creating a secondary market.

According to the DeFi Education Fund, such allocations cannot be called securities transactions because they do not involve the investment of counterparty funds, which is a core principle of the SEC’s Howey test, which is used to identify investment contracts.

Free airdrops have taken the crypto space by storm in recent months, raising billions of dollars for companies and projects, although the initial release of tokens to users was free, unlike the legally risky and now outdated first-time airdrops. Coin offerings (ICOs) are done differently.

Brian L. Frye, a law professor at the University of Kentucky, said in a message to reporters that the DeFi Education Fund has presented “strong evidence” that airdrops are not within the jurisdiction of the SEC.

In the past, Frye has criticized crypto companies like Coinbase for underestimating how broad the SEC’s scope is under the Howey test, but he believes the DeFi Education Fund’s claims about airdrops are more reasonable.

In contrast, he believes the fund may have more difficulty trying to prove that the SEC violated the Administrative Procedure Act (APA).

“As the Supreme Court explained in Howey, the SEC does not claim to create new rules for cryptocurrencies, but rather regulates them under its existing authority,” Frye explained. "You don't need notice and comment when you can present your case to the court."

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