Lejilex Goes on the Offensive Against the SEC, with a Challenge to the SEC's Authority to Regulate
Lejilex, founded in 2023 by Mike Wawszczak and Eli McNutt in Fort Worth, Texas, intends to launch a digital asset trading platform to be known as Legit.Exchange. It wants to enable non-custodial peer-to-peer trading of digital assets through the use of "smart contracts." But its platform launch is on hold, due—according to a complaint filed on February 21—to a "genuine threat" of SEC enforcement against it, if it proceeds with its planned exchange launch. Rather than waiting for that enforcement action, Lejilex has chosen to go on the offensive. With the assistance of lobbying group Crypto Freedom Alliance of Texas (CFAT), Lejilex has filed suit against the SEC in the Northern District of Texas. Complaint, Lejilex v. SEC et al., No. 4:24-cv-00168-O (N.D. Tex. filed Feb. 21, 2024).
The suit's core argument is that the SEC's enforcement power does not extend to digital assets. The Securities Act and the Exchange Act authorize the SEC to regulate transactions involving "securities," a term with a lengthy and technical definition. See 15 U.S.C. §77b(a)(1);15 U.S.C. §78c(a)(10) (similar). That definition, as Lejilex points out, does not encompass everything that might be considered an "investment" or traded between investors on markets. Lejilex argues, with reference to SEC v. W.J. Howey Co., 328 U.S. 293 (1946), that an "investment contract" under the meaning of the Securities Act and Exchange Act encompasses only a transaction that contemplates some form of common enterprise, with ongoing obligations on the part of the issuer or seller toward the buyer, not present in most blockchain-based tokens. Lejilex Compl. ¶¶ 21-26. Because of this, according to Lejilex, digital assets of the kind Lejilex envisions being traded on its proposed exchange are not "investment contracts," nor do they fall under any other prong of the definition of "security," and are therefore not within the SEC's statutory authority.
Nevertheless, the SEC has undertaken multiple enforcement actions against digital asset trading platforms, most notably Coinbase and Binance. In those enforcement actions, the SEC has claimed that many of the digital assets that Lejilex wishes to allow to be traded on its platform constitute "securities" and fall within its regulatory authority. See Complaint, SEC v. Coinbase, Inc., No. 1:23-cv-04738 (S.D.N.Y. filed June 6, 2023); Complaint, SEC v. Binance Holdings Ltd., No. 1:23-cv-01599 (D.D.C. filed June 5, 2023). That leaves Lejilex—like many current or aspiring digital asset trading platforms—with a dilemma: it cannot facilitate trading of these digital assets without running the risk that the SEC could bring a potentially business-ending enforcement suit against Lejilex for failure to register as a securities exchange, broker, or clearing agency. But neither can it register, because the SEC has not promulgated any regulation governing the registration of digital asset platforms, or clearly laying out what such platforms must do to comply with securities laws. Indeed, the SEC recently denied Coinbase's petition for such rulemaking. See Letter from Vanessa Countryman, Secretary, SEC (Dec. 15, 2023), http://tinyurl.com/4ezj2wa2; see also Gary Gensler, SEC Chair, Statement on the Denial of a Rulemaking Petition Submitted on Behalf of Coinbase Global, Inc. (Dec. 15, 2023), http://tinyurl.com/3w7z9xfp.
Lejilex asks the court to resolve its dilemma, bringing suit under the Declaratory Judgment Act, 28 U.S.C. §#2201. Lejilex seeks "to determine whether it will be able to conduct its business without risking the severe penalties that the SEC is currently seeking against Coinbase and others," and so requests a declaration that "secondary-market sales of digital assets . . . are not sales of securities as defined by the Exchange Act of 1934 and the Securities Act of 1933." Lejilex Compl. ¶¶ 91, 94.
Bringing suit in advance of any enforcement action is a novel and creative approach to securing regulatory certainty for Lejilex's business. And bringing that suit in the Northern District of Texas, which may be more inclined to skepticism about the SEC's claims to regulatory authority than the Southern District of New York or District of D.C. (where Coinbase and Binance are pursing many of the same arguments), raising the likelihood of a circuit split on these timely issues. We look forward to seeing the results of Lejilex's quest for regulatory certainty.
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