This article was first published on dlapiper.com
By: Scott R. Wilson | Eric Forni | Evan North
Earlier this week, authorities in eight states, among them the New York Attorney General, brought coordinated legal actions against crypto lending platform Nexo for allegedly failing to register with state regulators and defrauding investors.
Nexo’s web-based and mobile app platform allows users to buy and sell virtual currencies, as well as to earn interest on virtual currency deposits through its Earn Interest Product (EIP). Nexo uses clients’ EIP deposits to engage in revenue-producing activity such as lending.
Notably, the New York Attorney General (NYAG) alleged in a civil suit that Nexo offered and sold securities and commodities within the State of New York while failing to register as a securities or commodities broker-dealer as required by state law. The NYAG also alleged that Nexo gave investors the misleading impression that their investments are low-risk and that Nexo is fully licensed and in compliance with applicable law.
NYAG noted that Nexo’s website included assurances that “Nexo is compliant everywhere it provides services and retains top-tier legal counsels in the jurisdictions of its operation.” The suit also alleged that a Nexo co-founder described Nexo as “safer, especially for the larger clients, than your average bank” on a Yahoo Finance Live broadcast.
NYAG’s suit includes claims under the Martin Act, New York’s so-called blue sky anti-fraud law, Article 23-A of the General Business Law, as well as Section 63(12) of the Executive Law, which prohibits repeated and persistent fraud or illegality in the conduct of a business. NYAG alleges that Nexo violated these laws by acting as an unregistered securities and/or commodities broker-dealer. As we have previously noted, New York courts have held that virtual currencies fall within the scope of the Martin Act’s definition of a “commodity.”
The NYAG’s allegations suggest Nexo may have struggled to exclude New York customers from its platform, even after receiving a cease-and-desist letter from the state in October 2021 and committing to wind down its New York-based customer accounts. In response to the letter, Nexo tweeted publicly, “it makes little sense to be receiving a C&D for something we are not offering in NY anyway.” The tweet noted, “We use IP-based geoblocking.” NYAG’s complaint alleges that data Nexo provided to state securities regulators in August 2022 revealed that Nexo still had thousands of active New York-based EIP accounts well into 2022.
Securities regulators for the states of California, Kentucky, Maryland, Oklahoma, South Carolina, Washington, and Vermont filed separate administrative actions against Nexo on the same day. The states were part of a working group of state regulators that conducted a joint investigation into Nexo.
In a blog post, Nexo noted that it had already “ceased the onboarding of new US clients for our Earn Interest Product” following the SEC’s February 2022 settlement with BlockFi, another crypto lending platform.
These coordinated actions against Nexo serve as a reminder that cryptocurrency remains an enforcement priority for state AGs. The NYAG’s suit comes on the heels of investor alerts issued in June and August 2022 warning consumers about the risks of crypto investing and urging investors who believe they have been a victim of fraud and whistleblowers to contact NYAG.
Further, state AGs can share information and coordinate with federal authorities, including the SEC and the CFTC, which similarly are prioritizing cryptocurrency enforcement. As a result, persons operating in this sector should carefully consider federal securities and commodities registration laws, as well, particularly if they are already on a state AG’s radar.
Learn more about the implications of these legal actions by contacting any of the authors.