Most experts would agree that the main obstacle holding crypto back is regulation. Right now in the U.S., regulation surrounding blockchain and crypto is about as clear as pea soup. And that’s costing the U.S. its reputation as a world economic leader while more nimble nations take advantage of the fog of regulatory uncertainty created by confusion the SEC has sown.
The best minds in the U.S. seem completely unable to make up their minds when it comes to digital assets. Should they be considered a security, like stocks or bonds? Are they a non-security investment, like bank accounts or precious metals? Or something else entirely, a class of their own?
Even the geniuses at Harvard Business School can’t figure it out: they admit they’re “perplexed” by what they call the Hinman Paradox, named for the head of the SEC’s Corporate Finance Division, who has argued that some tokens start out as securities and then evolve into something else.
Frankly, if Harvard can’t figure it out, there’s not much hope for the rest of us.
Real Progress from the SEC?
Fortunately there may be a light at the end of the tunnel. And it’s a biggie.
Having learned from the regulatory problems with ICOs and early utility tokens, today’s security token offerings (STOs) are set up in a way that’s fully compliant with current regulations. But the tradeoff has been that until now, the SEC has limited most investment to a relatively small pool of large-scale institutions or accredited investors.
Today, in order to be recognized as an accredited, or “sophisticated,” investor, an individual must be worth more than $1 million (beyond their primary residence), or have $200,000 in annual income, or $300,000 in joint annual income. An institution must have over $5 million in assets. Those are very high thresholds, which leave most of us out of the loop when it comes to investing in STOs.
The current definition is also entirely arbitrary. Do any of us believe there are no dumb millionaires who might make bad investment decisions? Or no wise investors who happen to have less than a million bucks sitting in the bank?
Now, at long last, the SEC has recognized its own insanity. On Dec. 18, the SEC released a statement announcing their intention to “modernize” the test for accredited investors to include new criteria like “professional knowledge, experience, or certifications.” These criteria may parallel the Series 7 exam for buying and selling traditional securities. The SEC has also promised to expand the list of entity types which can qualify as accredited investors.
The Dawn of Tokenization
Backing up for a second, it’s easy to see why the SEC might have believed ordinary investors need protection from crypto.
Earlier waves of cryptocurrencies and ICOs ran into problems that, retroactively, look inevitable, including shady offerings and half-baked business plans. The blockchain space is now poised to embrace tokenization, a technology which addresses some of the weaknesses of the first two crypto waves – creating the third wave of crypto that we’ve all been waiting for.
But despite what the SEC seems to believe, regulatory confusion isn’t helping anyone. Certainly not the naïve investors they claim to want to protect. In fact, it’s harming everyone, from property owners to investors inside and outside the fintech world.
While an ICO is selling a coin whose value can be difficult to pin down in absolute terms, an STO is selling tokens which are tied to a real-world asset. This asset can be anything, from a painting or vintage car to a pharmaceutical patent. But the greatest promise for STOs lies in real estate. Because the value of real estate assets is fairly easy to determine, and algorithms are already in place for doing so, tokenizing real estate creates a token with a clear and easily-defined value.
Last Best Hope
The SEC is nowhere near making a final decision yet. But many in the fintech/proptech space believe that decision can’t come quickly enough.
Current estimates indicate that around 12 million households in the U.S. qualify for accredited investor status under the current SEC regulations – only about 10% of the population, yet they control about $65.88 Trillion in wealth. Imagine how much more capital will be available by opening up the space to a broader spectrum of educated, interested investors.
Americans are eager to become active investors. According to a Gallup poll, 55% of Americans own traditional stock, while many are eager to find non-traditional investment methods, such as crowdfunding and tokenization. Bypassing traditional gatekeepers, like big banks, inevitably makes capital available to groups which have traditionally found it hard to raise funds, such as African-American owned small businesses. It’s also helping economically-depressed regions like South America.
These are the investments the SEC has been “protecting” us from – but Americans are demanding to be trusted with their own money. And increasingly, they want to invest their conscience, taking environmental, social, and governance factors into consideration. Updated SEC guidelines could just make that possible.
Regulatory clarity will remove barriers, opening up a far larger investor pool. And this will pave the way for tokenization, our current best hope for democratizing real estate investment and pulling the global real estate industry out of its current slump, and with it, the global economy.
Baby Steps to Democratization
Banks and other traditional lending institutions have made it harder than ever for young buyers to own property. Without viable alternatives, millennials have been scared off the dream of property ownership. Some see this slump as a death spiral leading to recession within the next very few years.
By bringing the process of acquiring capital in line with property owners’ needs and expectations, tokenization can reverse these downward trends. It will change the way asset owners raise capital, opening up real estate investment beyond the heavy iron gates of major financial institutions.
Nothing is final yet, and it remains to be seen how the definitions will eventually shake out. But given that things couldn’t possibly get more restrictive, any progress will be great news for tokenization.
Opening up these definitions will go a long way toward bringing tokenized real estate investment into the mainstream. And beyond that, this move will also help the U.S. reclaim its rightful place as a world leader, embracing positive change and democratization of investment to benefit all its citizens.
Visit her site at SolidBlock.co
Yael can be reached at yael(at)solidblock.co