Ava Labs Counsel: You’re Doing the Howey Test Wrong

The Howey Test applies to arrangements, not tokens, Ava Labs’ general counsel said


SEC Chair Gary Gensler | Source: Third Way Think Tank "Gary Gensler" (CC license)


Regulators and industry members need to stop applying the Howey Test to the token and start looking at the arrangement, Lee Schneider, general counsel at Ava Labs, told Blockworks at the Avalanche Summit in Barcelona Wednesday.

“When it comes to classifying individual tokens, it’s really what is the nature of the thing,” said Scheider, who was a partner at McDermott, Will & Emery before joining Ava Labs in 2021.

Anything can be tokenized, but not all tokens are the same, he added, pointing to stablecoins, tokenized assets like NFTs, and collectibles and tokens tied to blockchains, like bitcoin (BTC) and ether (ETH).  

“​​Everybody applies the Howey [test] and they apply it to the token,” Schneider said. “Howey is not about things. It’s about arrangements.”

It’s not about what the token is, Schneider added, it’s about what’s in it. 

“For reasons I have never understood, no one recognizes that the Supreme Court confirmed Howey in 2004 in an opinion bearing the name SEC v. Edwards,” Schneider wrote in a July 2022 paper about Solana’s SOL token. “Once again, the Court recognized the need to scrutinize the arrangement to determine whether it was an investment contract, rather than the assets, items, or things that are the subject of the arrangement.” 

The token classification question has taken center stage recently. 

SEC Chair Gary Gensler notably could not provide a “yes or no” answer to whether or not ether is a security at recent Congressional hearing, frustrating many lawmakers and industry players. 

“I think what Gary Gensler was trying to say, and I don’t think he said it as artfully as he could have, was to look at some facts and circumstances determination,” Schneider said. 

Gensler’s “facts and circumstances” approach to token classification makes navigating the space difficult and confusing though, he added. 

“I understand why the chair says what he says, but I think it makes it very difficult for anybody to decide whether a particular token is a security, and I think that difficulty is compounded by the misapplication of the Howey Test, where you’re applying it to the asset or the item and not to the arrangement,” 

The SEC is potentially nearing the end of its legal battle with Ripple over its XRP token, which has been ongoing for roughly 32 months. A summary judgment is expected by the end of this year, Ripple’s counsel said. For Ava Labs, which issues its own native token, AVAX, it’s a case to keep an eye on. 

Read more: No Matter What Happens With the SEC, Ripple Has Already Won

“We think that the SEC is maybe not understanding fully when something is a security,” Schneider said, adding that he does not “know all of the individual facts” about Ripple’s case. 

“If the court sides with the SEC and says that Ripple is a security, then we’ll spend time looking at Ripple versus AVAX,” Schneider said. “We’ll decide on the AVAX facts and circumstances whether we think it makes a difference.”

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