Two artists have filed a lawsuit against the Securities and Exchange Commission (SEC), contesting the agency's assertion of authority over non-fungible tokens (NFTs). Jonathan Mann, a musician renowned for his daily songwriting, and Brian L. Frye, a conceptual artist and law professor, are seeking declaratory judgments that their planned NFT projects do not constitute securities offerings.
Mann's project involves releasing 10,420 NFTs featuring remixes of his song "This Song Is A Security," while Frye plans to offer 10,320 NFTs representing ownership in a conceptual artwork. Both artists fear potential SEC enforcement action if they proceed without clarity on the legal status of their projects.
The lawsuit, filed in the US District Court for the Eastern District of Louisiana, comes on the heels of recent SEC enforcement actions against NFT issuers Impact Theory and Stoner Cats.1 In those cases, the SEC claimed that certain NFT offerings were unregistered securities. Mann and Frye argue that the SEC has overstepped its bounds and is improperly regulating art.
The SEC has taken the position that some NFT offerings involve investment contracts under the Howey test, particularly when accompanied by marketing statements about potential appreciation in value. However, the plaintiffs contend that selling art as NFTs, even with associated promotional efforts, does not transform the artwork into a security.
The complaint challenges the SEC's authority to regulate digital art and NFTs as securities, arguing that the agency lacks clear Congressional authorization to do so. Moreover, the plaintiffs contend that purchasing their NFTs does not constitute an investment in a common enterprise with an expectation of profits from the efforts of others, as required by the Howey test.
The artists express concern about the chilling effect the SEC's approach could have on artistic expression and innovation. They argue that the threat of enforcement action could deter artists from experimenting with new technologies and limit their ability to monetize their work. The complaint also criticizes the SEC for regulating through enforcement without providing clear rules for NFT creators, leaving artists in a state of legal uncertainty.
In response to this regulatory ambiguity, Mann and Frye have chosen to seek a declaratory judgment, a legal strategy that allows parties to proactively address potential disputes before they formalize. Others in the digital asset industry are also pursuing similar approaches to preempt potential enforcement actions by the SEC, most notably blockchain software developer Consensys Software Inc.,2 blockchain industry associations Crypto Freedom Alliance of Texas and Blockchain Association,3 and decentralized exchange LEJILEX.4
By seeking this judgment, the artists aim to obtain a court ruling on the legal status of their NFT projects without waiting for the SEC to initiate enforcement action. A favorable declaratory judgment could set a precedent that limits the SEC's authority over similar NFT offerings, potentially benefiting other artists and creators in the digital space.
Footnotes
1.See Katten's Quick Reads post on the Impact Theory enforcement action here.
2.Consensys Software Inc. v. Gensler et al., No. 4:24-cv-00369, (N.D. Tex. filed Apr. 25, 2024) (seeking declaratory judgment on whether Ethereum's ether (ETH) cryptocurrency is a security subject to SEC regulation and whether Consensys's MetaMask wallet software violates securities laws).
3.LEJILEX et al. v. SEC et al., No. 4:24-cv-00168, (N.D. Tex. filed Feb. 21, 2024) (seeking declaratory judgment on whether secondary market sales of digital assets are securities transactions under federal law and whether a digital asset trading platform must register as a securities exchange, broker, or clearing agency).
4.Crypto Freedom Alliance of Texas et al. v. SEC et al., No. 4:24-cv-00361, (N.D. Tex. filed Apr. 23, 2024) (seeking declaratory judgment on the SEC's new "Dealer Rule" expanding the definition of securities dealer).
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