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Kraken pays $30 million to settle SEC charges over staking program

Crypto exchange Kraken is paying $30 million to settle charges Thursday with the Securities and Exchange Commission for allegedly violating securities rules by failing to register its crypto asset staking-as-a-service program with the SEC.

"Whether it’s through staking-as-a-service, lending, or other means, crypto intermediaries, when offering investment contracts in exchange for investors' tokens, need to provide the proper disclosures and safeguards required by our securities laws," said SEC Chair Gary Gensler. "Today's action should make clear to the marketplace that staking-as-a-service providers must register and provide full, fair, and truthful disclosure and investor protection."

In crypto, staking is an alternative method to mining that validates data stored on a blockchain. Investors lock up their tokens in escrow and help validate the next block of data. In return they reap blockchain rewards.

The staking services allowed investors to transfer crypto assets to Kraken for staking in exchange for investment returns of as much as 21%.

This action comes after Coinbase CEO Brian Armstrong tweeted late Wednesday, "We're hearing rumors that the SEC would like to get rid of crypto staking in the U.S. for retail customers. I hope that's not the case as I believe it would be a terrible path for the U.S. if that was allowed to happen."

Asked whether the SEC was moving to eliminate staking as a feature offered by the crypto industry, officials said the SEC does not regulate industries, it regulates conduct.

Following the SEC's action, ether (ETH-USD) fell to its lows of the day, putting losses over the last 24 hours near 4%.

In September, shortly after the second-largest blockchain, Ethereum, transitioned from a proof-of-work to proof-of-stake protocol, Gensler said cryptocurrencies and intermediaries that allow holders to stake their coins might be securities based on the Howey test, which examines whether investors expect to earn a return from the work of third parties.

“You see, you're basically an investor in their platform,” Gensler said on Thursday. “If it goes under, and we've seen plenty of that recently, you end up in line in the bankruptcy court. That's why it's so important that these companies and platforms comply with the securities law.”

U.S. Securities and Exchange Commission (SEC) Chairman Gary Gensler, testifies before the Senate Banking, Housing and Urban Affairs Committee during an oversight hearing on Capitol Hill in Washington, U.S., September 15, 2022. REUTERS/Evelyn Hockstein
U.S. Securities and Exchange Commission (SEC) Chairman Gary Gensler, testifies before the Senate Banking, Housing and Urban Affairs Committee during an oversight hearing on Capitol Hill in Washington, U.S., September 15, 2022. REUTERS/Evelyn Hockstein (Evelyn Hockstein / reuters)

Before the charges, Kraken's staking service accounted for 7.4% of staking activity on Ethererum while Coinbase accounts for another 12.5%, according to data provided by Dune. Staked ether can't be unstaked until the protocol's Shanghai upgrade anticipated in March.

With the exception of staked ether, all U.S. Kraken clients will automatically be unstaked and will no longer earn staking rewards. Staking services for non-U.S. clients will continue uninterrupted, a spokesperson for Kraken said.

In its latest quarterly report, Coinbase showed its staking business brought in $63 million, or about 11% of its total net revenue. Shares of Coinbase Global (COIN) fell more than 13% on Thursday.

In a statement shared with Yahoo Finance, Coinbase chief legal officer, Paul Grewal, said "Coinbase's staking program is not affected" by the charge and that its staking program continues to operate.

"What’s clear from today’s announcement is that Kraken was essentially offering a yield product," Grewal stated.

"Coinbase’s staking services are fundamentally different and are not securities. For example, our customers’ rewards depend on the rewards paid by the protocol, and commissions we disclose, he added.

Following the collapse of crypto exchange FTX in December, Gensler told Yahoo Finance "the runway is getting shorter" for companies to comply with SEC rules.

As part of the settlement, Kraken has neither admitted nor denied the SEC's allegations.

The SEC’s action against Kraken marked the fourth enforcement action against a crypto firm by the agency this year, including action against Genesis Global Capital and Gemini, the cryptocurrency exchange founded by Tyler and Cameron Winklevoss.

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