How Kardashian ran afoul of the Securities Act of 1933, and recent developments in the regulation of cryptocurrency.

In 2021, Kim Kardashian announced that she had passed the “Baby Bar Exam” (fourth time’s a charm) and was one step closer to fulfilling her ambitions of becoming a lawyer. In her legal studies, however, she evidently overlooked federal securities laws.

Ms. Kardashian found herself on the wrong side of the law Monday, when the SEC entered a cease-and-desist order against her (the “Kardashian Order”), finding her in violation of Section 17(b) of the Securities Act of 1933. (Order Instituting Cease-and-Desist Proceedings Pursuant to Section 8A of the Securities Act of 1933, Making Findings, and Imposing a Cease-and-Desist Order, In re: Kimberly Kardashian, SEC Admin. File No. 3-21197, Release No. 11116 (October 3, 2022)).

Section 17(b), the “anti-touting provision” was enacted to protect the investing public. It requires any individual who is getting paid to promote a security to disclose how much they are getting paid and the source and nature of those payments. Specifically Section 17(b) makes it unlawful for any person to:

publish, give publicity to, or circulate any notice, circular, advertisement, newspaper, article, letter, investment service, or communication which, though not purporting to offer a security for sale, describes such security for a consideration received or to be received, directly or indirectly, from an issuer, underwriter, or dealer, without fully disclosing the receipt, whether past or prospective, of such consideration and the amount thereof.

As detailed in the Kardashian Order, on June 13, 2021, Ms. Kardashian posted the following “#AD” to her Instagram, and an introductory video proclaiming a “big announcement”:

ARE YOU GUYS INTO CRYPTO?

THIS IS NOT FINANCIAL ADVICE BUT SHARING WHAT MY FRIENDS JUST TOLD ME ABOUT THE ETHEREUM MAX TOKEN!

A FEW MINUTES AGO ETHEREUM MAX BURNED 400 TRILLION TOKENS - LITERALLY 50% OF THEIR ADMIN WALLET GIVING BACK TO THE ENTIRE E-MAX COMMUNITY.

#EMAX #DISRUPTHISTORY #ETHEREUMMAX #WTFEMAX #GIOPEMAX @ETHEREUMMAX #AD

- Kim Kardashian

EthereumMax paid Ms. Kardashian $250,000 for the promotion. Although her post contained the hashtag #AD, she “did not disclose that she had been paid by EthereumMax or the amount of compensation she received from EthereumMax for making this post.”

The SEC accepted Ms. Kardashian’s settlement offer, which required her to disgorge the $250,000 payment she received from EthereumMax, plus interest, and pay a $1 million penalty to the SEC. Ms. Kardashian was further ordered to refrain from touting cryptocurrencies for the next three years.

This is not the first time the SEC has charged a celebrity with violating the Securities Act of 1933 for unlawfully touting cryptocurrency. In 2017, the SEC issued its Staff Statement Urging Caution Around Celebrity Backed ICOs, which warned that “[a]ny celebrity or other individual who promotes a virtual token or coin that is a security must disclose the nature, scope, and amount of compensation received in exchange for the promotion. A failure to disclose this information is a violation of the anti-touting provisions of the federal securities laws.”

A year later, the SEC reached settlements with Floyd Mayweather, Jr. and DJ Khaled for touting violations in connection with initial coin offerings (ICOs). Mayweather had urged his Twitter followers to get their Centra Tech coins before they sold out and represented that he had already bought his, failing to disclose that he received payments in excess of $100,000 for these promotional messages. DJ Khaled touted Centra Tech as a “game changer,” for which he received an undisclosed $50,000 payment.

In 2020, Steven Seagal settled similar charges brought by the SEC for failing to disclose that he had received $250,000 in cash and $750,000 in tokens in exchange for social media posts urging fans not to “miss out” on Bitcoiin2Gen’s ICO, and a press release naming him the “Brand Ambassador” for the coin, which he endorsed “wholeheartedly.”

The public tends to take note any time a superstar gets slapped on the wrist, but the Kardashian Order has ramifications well beyond schadenfreude and celebrity accountability. It reflects the U.S. trend towards increased regulation of cryptocurrency, including as “securities” subject to federal securities laws.

As discussed earlier this year in Bilzin Sumberg’s “Cryptocurrency Primer,” the prevailing definition of a security, subject to disclosure and registration requirements under the Securities Act of 1933 and the Securities and Exchange Act of 1934, was established in the U.S. Supreme Court case of SEC v. W.J. Howey Co., 328 U.S. 293 (1946). According to the “Howey test” established in that case, a security exists if there is an investment of money in a common enterprise, with profits derived solely from the efforts of others. In essence, the question is how much the subject transaction looks and functions like a traditional investment vehicle, with shares being issued by an enterprise that is raising money.

On July 25, 2017, the SEC issued its Report of Investigation Pursuant to Section 21(a) of the Securities Exchange Act of 1934: The DAO, Exchange Act Rel. No. 81207, in which it indicated that digital tokens or coins offered and sold may be securities, subject to the requirements of federal securities laws.

On March 9, 2022, President Biden issued his Executive Order on Ensuring Responsible Development of Digital Assets, in which he ordered that “digital asset issuers, exchanges and trading platforms, and intermediaries whose activities may increase risks to financial stability, should, as appropriate, be subject to and in compliance with regulatory and supervisory standards that govern traditional market infrastructures and financial firms, in line with the general principle of ‘same business, same risks, same rules.’”

On April 4, 2022, in his Prepared Remarks for the Penn Law Capital Markets Association Annual Conference, SEC Chair Gary Gensler stated that “most crypto tokens involve a group of entrepreneurs raising money from the public in anticipation of profits — the hallmark of an investment contract or a security under our jurisdiction. Without prejudging any one token, most crypto tokens are investment contracts under the Howey Test. . . .Today, many entrepreneurs are raising money from the public by selling crypto tokens, with the expectation that the managers will build an ecosystem where the token is useful and which will draw more users to the project.”

On September 12, 2022, Nikhil Wahi, the brother of the former Coinbase (COIN) product manager, Ishan Wahi, pled guilty in the “first ever cryptocurrency insider trading case,” which was initiated on the heels of the “first ever insider trading case involving NFTs.” The Complaint, filed July 21, 2022, characterized “at least nine” crypto assets relevant to the litigation—AMP, RLY, DDX, XYO, RGT, LCX, POWR, DFX, and KROM— as “securities.” The SEC alleged that the “hallmarks of the definition of a security continue to be true for the nine crypto asset securities that are the subject of the trading in this complaint, including continuing representations by issuers and their management teams regarding the investment value of the tokens, the managerial efforts that contribute to the tokens’ value, and the availability of secondary markets for trading the tokens.”

A few days later, on September 15, 2022, the Senate Committee on Banking, Housing, and Urban Affairs held a hearing on Senate Bill 4356, a bipartisan bill co-sponsored by Senators Cynthia M. Lummis (R-WY) and Kirsten Gillibrand (D-NY). The dense bill endeavors to establish a regulatory framework for “digital assets,” (i.e., cryptocurrency and NFTs), including by amending certain existing federal legislation to bring digital assets within their purview. According to its sponsors, the Bill attempts to “make[ ] a clear distinction between digital assets that are commodities or securities by examining the rights or powers conveyed to the consumer, giving digital asset companies the ability to determine what their regulatory obligations will be and giving regulators the clarity they need to enforce existing commodities and securities laws, bringing digital assets into the regulatory perimeter from the current vacuum.” Section 205(e) of the Bill, concerning taxation of digital assets, provides that it shall not “be construed to create any inference with respect to the classification of any digital asset as security under the Securities Act of 1933 (15 U.S.C. 77a et seq.) or the Securities Exchange Act of 1934 (15 U.S.C. 78a et seq.)[,]” leaving that question open for another day and forum.

Monday’s Kardashian Order adds EthereumMax to a growing list of cryptocurrencies that the SEC has treated as a “security” under the Securities Act of 1933. Thus, while the Kardashian Order could mean that Ms. Kardashian’s legal career is over before it began, it also signals that the regulation of cryptocurrency—including as “securities” subject to the requirements of the Securities Act of 1933 and/or the Securities Exchange Act of 1934—is just getting started.