On August 28, 2023, the Securities and Exchange Commission (SEC) announced a settled enforcement action against Impact Theory LLC (Impact Theory) for the unregistered sale of non-fungible tokens (NFTs) that the SEC determined were securities.¹ Impact Theory agreed to pay more than $5.1 million dollars in disgorgement, and nearly $1 million in civil penalties and interest, for its sale of “Founder’s Keys”—NFTs Impact Theory sold allegedly as an investment in its business. This marks the first time the SEC has brought an enforcement action regarding the sale of NFTs, extending the SEC’s reach of digital asset regulation beyond cryptocurrencies and tokens.

As laid out in the SEC’s Cease-and-Desist Order (the Order), Impact Theory raised nearly $30 million via the sale of Founder’s Keys NFTs (Founder’s Keys) from October to December 2021, telling purchasers the proceeds would be used to develop the company, hire additional personnel, and create more projects. Leading up to the sale of the Founder’s Keys, Impact Theory hosted live events and published a number of videos about the company on YouTube where it encouraged viewers to purchase the NFTs, reasoning they were an investment in Impact Theory’s business, and repeatedly promising they would increase in value if the company was successful. For example, Impact Theory stated that the Founder’s Keys were priced based on the success the company hoped to achieve in the 18 to 24 months following the sale, and they would allow purchasers to “capture tremendous value from the things that we’re building.”² The company claimed, “NFTs are the mechanism by which communities will be able to capture economic value from the growth of the company that they support.”³

The Order claims that, based on Impact Theory’s statements, numerous purchasers of the Founder’s Keys discussed online their view that the NFTs were investments. One purchaser stated, “It's like investing 10k with a 300k upside, for a small risk.”⁴ Another said, “[T]here is at this point in time no investment that has such an amazing Risk to Reward ratio.”⁵ Following the initial sale, the NFTs began trading on various secondary digital asset trading platforms. Impact Theory publicized the trading and received a portion of the proceeds for each secondary sale.

Based on these facts, the Order states that the Founder’s Keys are securities under the test outlined in SEC v. Howey, which held that an investment contract requires (1) an investment of money, (2) in a common enterprise, (3) with a reasonable expectation of profits, (4) based on the efforts of others.⁶ The SEC ordered Impact Theory to, among other things, disgorge its profits from the NFTs to harmed investors, destroy the Founder’s Keys NFTs in its possession, publish notice of the Order on its website, revise the smart contracts providing for a royalty from secondary sales of the NFTs, and pay civil penalties and prejudgment interest.

Following the Order, SEC Commissioners Hester M. Peirce (Peirce) and Mark T. Uyeda (Uyeda) published a statement dissenting from the Order.⁷ Peirce and Uyeda acknowledged Impact Theory made “loud promises that the NFTs would increase in value,” and that they understood the SEC’s concerns regarding the NFTs’ sale. However, they believe the facts and circumstances were insufficient to determine the Founder’s Keys are securities.

Uyeda and Peirce reasoned that the Founder’s Keys lacked certain key characteristics of securities: they were not shares of the company and did not grant the purchasers the right to dividends. In addition, the “handful” of statements from the company and purchasers regarding the Founder’s Keys’ investment potential differed from those generally constituting investment contracts.⁸ “We do not routinely bring enforcement actions against people that sell watches, paintings, or collectibles along with vague promises to build the brand and thus increase the resale value of those tangible items.”⁹ Uyeda and Peirce further stated that even assuming the Founder’s Keys were securities, the Order was unwarranted because the remedy for the sale of unregistered securities is rescission and Impact Theory already offered to repurchase the NFTs from primary and secondary purchasers. Finally, Uyeda and Peirce cited the SEC’s failure to address the “difficult questions” by examining NFTs as an asset class and offering guidance when they first began to appear. They offered a list of questions to facilitate such a discussion, on topics including, among others, (1) whether regulatory frameworks other than the securities laws are better suited to regulating NFTs, (2) how to tailor the securities laws to apply to NFTs without becoming prohibitively costly, and (3) whether requiring Impact Theory to destroy the Founder’s Keys in its possession and amend its smart contracts to remove future royalty payments from the sale of the NFTs would set a negative precedent.¹⁰

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Ever since the SEC created its Crypto Assets Unit last year, and identified NFTs as an area of interest, it was only a matter of time until the SEC brought an action involving the sale of NFTs. But the facts and circumstances detailed in the Order seem to temper any broader ramifications. First, as a settled action with the SEC, the Order’s precedential value is minimal. Second, the facts in the Order appear similar to the facts of other cases the SEC has brought relating to digital assets as securities—namely, centralized promoters selling a digital asset as an investment in their business with an expectation of profits. Here, rather than calling them “tokens,” Impact Theory labeled them “NFTs.” And SEC Chair Gary Gensler has repeatedly said that the SEC will look beyond labels to “the facts and circumstances of a product’ to determine whether it is a security.¹¹ Third, as Peirce and Uyeda noted, how the SEC views other NFTs is unclear. But the facts and circumstances of other NFTs—such as Bored Apes—appear distinguishable to the facts in the Order. After much anticipation, NFTs are officially in the SEC’s crosshairs. NFT creators and other stakeholders in the digital asset space should take note of the Order, and monitor for similar decisions and any future guidance regarding the status of NFTs as securities.
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