Crypto exchange Kraken has agreed to pay a $30 million fine and close its crypto-staking division in the U.S. after the Securities and Exchange Commission (SEC) filed a complaint against the company for unlawful practice.
At Kraken and many other centralized exchanges, customers can stake their tokens to earn yields. They vault their digital assets with a blockchain validator and receive additional tokens as a reward for holding the assets.
According to the SEC, Kraken did not register the offer and sale of its crypto-staking service. SEC chief Gary Gensler explained that any company offering such a service to U.S. consumers must "provide the proper disclosures and safeguards required by our securities laws."
TLDR: If you're American and use Kraken the SEC just kicked you off staking and the IRS is asking for your data to 'determine your correct federal income tax liability— db (@tier10k) February 9, 2023
The agency said that upon participating in Kraken's staking-as-a-service, investors immediately lost control over their assets and took risks associated with using the service. Gensler alleged that Kraken's investors were not fully aware of those terms.
In its complaint letter, the SEC said Kraken marketed its staking program as an investment opportunity, promising investors "enhanced liquidity and immediate rewards." The advertised annual percentage yield promised by Kraken was up to 20 percent annually, and it would send the rewards to users biweekly.
The agency claimed that the exchange's U.S.-based staking clients had accumulated almost $15 million in net income on $45.2 million in revenue. There were 135,000 American users registered at the exchange's staking program. Overall, the exchange's U.S. customers had over $2.7 billion in crypto assets, earning Kraken a revenue of around $147 million.
Settlements are not law. They're a decision that the economics of settling are better than fighting, no more.— Jake Chervinsky (@jchervinsky) February 9, 2023
The SEC thinks staking-as-a-service is a security. Kraken didn't admit or deny either way.
It may be a tough question, but the SEC hasn't answered it either way today.
Kraken did not confirm or deny the allegations made by the SEC. Instead, the exchange said it would "automatically unstake all U.S. client assets enrolled in the on-chain staking program." Staked Ether (sETH), however, will only be unstaked after the network's Shanghai upgrade.
"Today, two Kraken subsidiaries announced a settlement with the U.S. Securities and Exchange Commission (SEC) concerning Kraken's on-chain staking program," Kraken wrote in an official statement. "Because of this settlement, Kraken has agreed to end its on-chain staking services for U.S. clients."
Despite discontinuing the U.S. service, the exchange said it would continue to offer staking services for non-U.S. clients through a different subsidiary.
Today we charged Kraken with failing to register the offer and sale of their crypto asset staking-as-a-service program, whereby investors transfer crypto assets to Kraken for staking in exchange for advertised annual investment returns of as much as 21 percent.— U.S. Securities and Exchange Commission (@SECGov) February 9, 2023
Reaction to SEC's action
The SEC received criticism for the move, including from its own commissioner, Hester Pierce, who said she doubted the SEC's action would benefit investors.
"Using enforcement actions to tell people what the law is in an emerging industry is not an efficient or fair way of regulating," Pierce wrote on social media. "Moreover, staking services are not uniform, so one-off enforcement actions and cookie-cutter analysis does not cut it."
Instead of shutting down the staking service immediately, Pierce said the SEC should have developed a doable registration process that involved the public in offering valuable information to crypto investors.
Coinbase CEO and co-founder Brian Armstrong later expressed agreement with Pierce's statement. He said requiring exchanges to register their staking services was "disingenuous" because there was no clear path for registration.
Today @SECGov charged Kraken for the unregistered offer & sale of securities thru its staking-as-a-service program.— Gary Gensler (@GaryGensler) February 9, 2023
Whether it’s through staking-as-a-service, lending, or other means, crypto intermediaries must provide the proper disclosures & safeguards required by our laws.
Earlier this week, Armstrong shared with his social media followers that he had heard rumors about the SEC wanting to eliminate crypto staking for retail investors in the U.S. The CEO said the move would further motivate crypto entities to operate their businesses offshore.
Armstrong also explained that staking was important for the crypto ecosystem as it encourages direct user participation in the networks, enhances blockchain scalability, improves security and reduces carbon footprint.
Crypto data provider Staking Rewards said a country-wide ban for staking would hurt the U.S.'s crypto industry as the top four staked tokens by market capitalization represent more than $55 billion in staked assets.