Exercise of Governance Tokens Could Result in Personal Liability for Illegal Activities of DeFi Protocol | Katten Muchin Rosenman LLP


Two pure individuals who voted governance tokens issued by a decentralized finance (DeFi) protocol have been charged with being “personally liable” for alleged violations of the Commodity Change Act (CEA) and rules of the Commodity Futures Buying and selling Fee (CFTC) by an autonomous group that administered the protocol, in an enforcement motion introduced by the CFTC on September 22, 2022.

The CFTC charged bZeroX, LLC (bZeroX) – a Delaware firm based, co-owned and run by Tom Bean and Kyle Kistner from roughly June 1, 2019 to August 23, 2021 — with numerous violations of the CEA and CFTC rules for creating and working the bZx Protocol. The bZx Protocol constituted quite a lot of sensible (i.e., programmable) contracts working with out intermediaries on the Ethereum blockchain. The CFTC alleged that the bZx Protocol illegally provided buying and selling in paired digital currencies on a margined or leveraged foundation to US-based retail individuals (non-“Eligible Contract Contributors”) that didn’t lead to precise supply inside 28 days – so known as “leveraged or margined retail commodity transactions.”

Particularly, the CFTC claimed that bZeroX might solely have engaged in leveraged or margined retail commodity transactions on a CFTC-licensed exchanged (i.e., designated contract market) and didn’t; acted as a dealer (i.e., futures fee service provider (FCM)) when it solicited transactions and held funds or prolonged credit score to clients whereas not registered as an FCM; and didn’t carry out sure anti-money laundering exercise (i.e., know your buyer exercise) required of all FCMs.

Mr. Bean and Mr. Kistner have been charged with the identical violations as bZeroX for being “controlling individuals” of bZeroX.

bZeroX gave management of the bZx Protocol to bZxDAO on roughly August 23, 2021. The bZxDAO (later renamed Ooki DAO) was an autonomous group that was not a authorized entity or owned or operated by pure individuals. As an alternative Ooki DAO was run via the train of governance tokens (e.g., voting) that have been issued to individuals that deposited sure digital currencies into the bZx Protocol to facilitate buying and selling on the platform. From August 23, 2021, to the current, Mr. Bean and Mr. Kistner have been among the many individuals that held and exercised governance tokens on Ooki DAO. The CFTC claimed that Ooki DAO was liable for a similar violations of the CEA and CFTC rules as was bZeroX.

The CFTC additionally alleged that Ooki DAO operated as an unincorporated affiliation via its members and its members have been individuals who acquired and exercised voting rights within the type of governance tokens. As a result of underneath some states legal guidelines, every particular person member of an unincorporated affiliation is collectively liable with different members for all money owed of an unincorporated affiliation, the CFTC charged that, by analogy, Mr. Bean and Mr. Kistner have been personally accountable for all of Ooki DAO’s violations of the CEA and CFTC rules. The CFTC cited no authority throughout the CEA or CFTC rules for this extension of legal responsibility to Mr. Bean and Mr. Kistner.

bZeroX, Mr. Bean and Mr. Kistner settled all of the CFTC’s prices towards them by agreeing pay a high quality of $250,000, amongst different sanctions. In doing so, they didn’t admit or deny any of the findings or conclusions within the CFTC’s order memorializing the settlement. The CFTC commenced a separate enforcement motion towards Ooki DAO which is pending in a federal court docket in California.

Summer time Mersinger, a CFTC commissioner, vociferously dissented from the CFTC’s order. She famous that whereas she couldn’t “…condone people or entities blatantly violating the CEA or our guidelines, we can’t arbitrarily determine who’s accountable for these violations based mostly on an unsupported authorized concept amounting to regulation by enforcement whereas federal and state coverage is creating.” Ms. Mersinger objected to the charging of Mr. Bean and Mr. Kistner based mostly on legislation theories outdoors the CEA or CFTC rules, significantly since she believed there was a provision underneath the CEA – prohibiting aiding and abetting of a violation – that might have been used to carry the 2 people accountable for the alleged violations of Ooki DAO.

Order of Settlement: https://www.cftc.gov/media/7676/enfbzeroxorder092222/obtain

Pending Motion: https://www.cftc.gov/media/7681/enfookicomplaint092222/obtain

Dissent of Commissioner Mersinger: https://www.cftc.gov/PressRoom/SpeechesTestimony/mersingerstatement092222


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