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How the STO Can Help You Avoid Legal Hurdles

September 3, 2018

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How the STO Can Help You Avoid Legal Hurdles

If there’s one aspect of the cryptocurrency world that’s been all over the news cycle recently, it’s been regulation.

Among many other regulatory concerns, investors and the cryptocurrency community are looking to new funding models for future projects like initial coin offerings (ICOs) and security token offering (STOs). What sets them apart is regulation.

Initial coin offerings (ICOs) have taken the crypto world by storm, but there’s a catch.

ICO’s don’t operate in a clear legal field for many investors. With the emerging asset class still so young, regulators across the world haven’t decided on a unified approach for handling ICOs.

At the beginning of 2018, the United States Senate Banking Committee famously heard the opinions of American regulators from the Securities and Exchange Commission (SEC) and Commodity Futures Trading Commission (CFTC) on the matter.

Chairman Joseph “Jay” Clayton and J. Christopher Giancarlo discussed the future of cryptocurrencies and how they fit into the current regulatory framework as well as how authorities will need to engage with them in the future.

Now we have another player in the crypto funding world that may be a game changer — the STO.

Here’s what you need to know about STO vs. ICO and why it matters.

The Difficulty with ICOs

“A number of concerns have been raised regarding the cryptocurrency and ICO markets, including that, as they are currently operating, there is substantially less investor protection than in our traditional securities markets, with correspondingly greater opportunities for fraud and manipulation.”
Jay Clayton, Chairman, US Securities and Exchange Commission

Since ICOs are not standardized, they can’t all be classified the same. And that’s a problem for those of us planning to crowdfund a blockchain-based project. Some ICOs distribute utility tokens that can’t be used off platform (and may not even be available for exchange listings), while others serve no purpose other than as a means of raising funding and operate in a similar manner to traditional equity.

Because of this lack of standardization and use-case of various coins and tokens, investors may be wary of attempting to contribute to your project’s early funding, especially American investors who are culturally taught to abide by regulations as the gold standard.

If I’m running a token crowdfunding event, I want access to as many investors as possible, right? I don’t want to be limiting the number of people who can participate in my crowd sale since that’s going to hurt my chances at a successful funding campaign.

So then, what are my options?

The STO: A Better Alternative

A new offering structure was recently introduced in the market known as a “Security Token Offering” (STO). This new framework is designed to clear up legal concerns for startups seeking funding for their projects and wishing to issue tokens. This is exactly the type of offering we’re looking for.

Fitting somewhere between an ICO and an Initial Public Offering (IPO), the STO is a new development that’s responding to regulatory concerns in the cryptocurrency markets. Unlike an ICO, the STO is fully intended to be treated as a security in the eyes of regulators (much like a share of a company).

Unlike its predecessor, the STO carries ownership and/or legal rights for holders with it.

Since the token is intended as a security, rather than serving a utility function on a blockchain platform, the tokens require backing by a tangible asset, like a company’s profits or shares. That means that for those of us launching an STO to crowdfund our projects, regulatory compliance is significantly easier than the grey area of cryptocurrency ICOs in the past.

In addition to being backed by tangible assets, STOs are intended to be fully compliant with the SEC and other regulatory bodies, meaning that they’ll be legally registered as securities and there’s nothing left to chance or interpretation by authorities.

Why the Distinction Matters

Some may see the difference between ICOs and STOs as a simple change of wording, but there are important legal distinctions between the two and they have big implications for your startup.

At the end of the day, there are some common things that matter to all entrepreneurs, regardless of what your startup’s purpose is. We want to ensure that everything we do is in line with all legal requirements (the last thing any of us want to deal with is legal problems when we’re already constantly keeping things running) and we want to do everything we can to expand the pool of potential investors.

That’s the beauty of an STO.

One of the keys in crowdfunding is that you can control how much you raise, what benefits come with the tokens, and every other step of the process — whether you need a lot of funding for your venture or really only need enough to keep the lights on.

The STO provides even more benefits than an ICO and has unlimited implications for the future. Besides saving you a ton on potential legal problems and expenses, the STO will allow businesses to tokenize nearly anything. With security tokens being backed by tangible assets, the STO now opens the future for increased access to tokenized assets like real estate, shares of a company, profits, and a variety of assets that are likely to be ‘tokenized’ in the near future.

From here, there’s no limit to what we may see develop with STOs.

There can be tokenized real estate investments trusts (REITs), where the tokens purchased go to crowdfunding the trust or perhaps even future hedge funds created not by millions of dollars from wealthy individuals, but by a vast array of people purchasing an “HF” token and buying in. The possibilities are endless.

We’re going to see a significant disruption in the future of the investment world.

Risk Disclaimer: Investing in cryptocurrencies is highly speculative and inherently risky. Potential investors should never invest in cryptocurrencies if not prepared to lose a significant portion, or all, of their investment(s). Given the nature of the investment and volatility of the cryptocurrency markets, investors need to properly understand the risks associated with such a decision before acting. Because each individual’s situation is different, one should always consult a qualified professional before making financial tax, regulatory, etc. decisions. While Blockanics offers an outlet for industry professionals to share their experiences with others, the magazine does not offer financial, legal, investment, or tax advice/guidance.

Claire Polansky is the managing editor of Blockanics. She ate, slept, and breathed Friedrich Nietzsche's anti-establishment theories while working on her multidisciplinary Ph.D in religion, philosophy, and environmental ethics. She believes that Nietzsche would have absolutely loved the decentralized mission behind crypto. When Claire is not editing or quoting Nietzsche, you can almost be certain that she is rescuing strange animals.