At the beginning of year, House and Senate members of Colorado’s General Assembly introduced the Colorado Digital Token Act (“CDTA”). The bill exempts digital token issuers who market tokens primarily for consumptive purposes (e.g., to purchase goods and services from the seller) from most state securities registration requirements. If passed, the CDTA would result in initial coin offerings (“ICOs”) being subject to fewer regulatory requirements in the state than traditional stock sales. The CDTA is similar to the Token Taxonomy Act, a bill introduced in Congress last year, which would amend the Securities Act of 1933 and the Securities Exchange Act of 1934 to exclude digital tokens from the definition of a “security.” The Token Taxonomy Act’s bipartisan sponsors are expected to reintroduce the bill in this congress.
The CDTA requires the following of token sellers and token buyers who want to qualify for the consumptive purposes exemption:
(1) Token Seller
- The seller must file a notice of intent with the Colorado Securities Commissioner.
- The notice must identify a consumptive purpose at the time of sale or within 180 days after the time of sale or transfer.
(2) Token Buyer
- The initial buyer is restricted from reselling or transferring the token until the consumptive purposes are available.
- The initial buyer must provide actual acknowledgement that they are purchasing the digital token with a consumptive purpose and not for speculative or investment purposes.
The “consumptive purpose” concept is derived from the four-part test outlined by the Supreme Court in Securities Exchange Commission v. W.J. Howey Company, 328 U.S. 293 (1946). There, the Court explained an investment contract as (1) an investment of money (2) in a common enterprise (3) with a reasonable expectation of profit, and (4) to be solely derived from the efforts of others. Subsequently, the Court has stated that “where [one] purchases a commodity for personal consumption” it likely is not a security, as it is not “an investment where one parts with his money in the hope of receiving profits from the efforts of others.”
If passed, the CDTA would represent an important, if primarily symbolic, victory for ICO proponents. Since 2017, the Securities Exchange Commission (“SEC”) has a pursued enforcement actions against a number of companies in connection with ICOs, including in connection with violations of securities registration requirements. Some states have engaged in similar enforcements, but the impact of a single state exempting digital tokens from its securities registration requirements would likely be minimal. Each state has its own securities laws (so-called “blue sky laws”) that apply to securities sold and bought within the state.
Colorado has attempted to portray itself as a “hub” for companies building decentralized platforms and web applications that support crowdfunding. The CDTA furthers that ambition by removing the costs, complexities, and uncertainties of state securities registration for businesses seeking to raise capital through ICOs, which the Colorado legislature hopes will create a network of participants seeking to expand their businesses in the state.
The CDTA is scheduled for debate within the Colorado Senate later this month.