Why I Sued the SEC

The party’s over when the cops show up. On August 28, 2024, OpenSea announced that it had received a Wells notice, which means that the US Securities and Exchange Commission (SEC) is considering an enforcement action. While OpenSea can respond to the notice on the merits, an SEC action is probably inevitable, because a Wells notice means that SEC staff have already decided to recommend to the SEC’s commissioners that the agency should bring an action.

The Wells notice is bad news both for OpenSea and the NFT market because it means that the SEC thinks at least a substantial number of NFTs are unregistered securities. 

And yet, the basis for the Wells notice is unclear. Which NFTs does the SEC think are securities and why? Either way, we will likely find out soon enough when the SEC brings an enforcement action.

I hate to say I saw it coming. I didn’t know who the SEC would sue or exactly why it would sue them, but I knew it would happen. Why? Because the NFT market looks too much like the kind of market the SEC thinks it’s supposed to regulate. After all, NFT collectors buy NFTs at least partly in order to invest in projects they think will become more popular, which will in turn make their NFTs more valuable. In the (very) abstract, that sounds a security: people buy NFTs hoping to sell them for a profit.

The only problem is that the SEC’s definition of a security is far too broad. In fact, its definition could include literally any investment. On that logic, an investment is a security if the SEC decides to regulate it. That can’t be right. Congress didn’t want the SEC to regulate all investments. It made a list of the kinds of transactions it wanted the SEC to regulate. The Supreme Court has never held that Congress authorized the SEC to regulate all investments because it has always held that the SEC can only regulate investments that are actually securities. In fact, even the SEC itself doesn’t regard all investments as securities. For example, in 1976, an SEC staffer concluded that selling editioned artworks is not the sale of a security. 

The SEC is overreaching and needs to be corrected. That’s why my co-plaintiff Jonathan Mann and I sued it, asking a federal court to tell the SEC it can’t regulate art just because people are selling it as NFTs.

Like so many budding securities lawyers, I entered law school after graduating from art school. My part in this story began in 2004, when I was a summer associate learning about securities law at the firm Sullivan & Cromwell LLP in New York City. I soon encountered the Supreme Court’s “Howey test,” which states that a transaction is a security regulated by the SEC if it consists of (1) an investment of money; (2) in a common enterprise; (3) with an expectation of profit; (4) from the efforts of others.

I immediately thought, “Gee, that sounds an awful lot like conceptual art.” According to Sol LeWitt, “[i]n conceptual art the idea or concept is the most important aspect of the work.”¹ In other words, conceptual art consists of an idea, not an object. But it’s hard to sell ideas, so most conceptual artists sell (or at least try to sell) certificates that represent “ownership” of their ideas. And sometimes it works! Certificates for LeWitt’s Wall Drawings are known to sell for upwards of $200,000.

Conceptual artists sell certificates that represent at least nominal ownership of an idea, and art collectors buy those certificates at least in part because they believe that they will increase in value if the artist becomes more famous. It doesn’t take a rocket scientist to see how conceptual art certificates resemble stock certificates. The only difference is that you’re investing in an artist’s career rather than a regular commercial enterprise. The art market doesn’t value the object you own, it values what the object represents. What you are really buying is an entry on an artist’s catalogue raisonné. 

An artwork is merely a physical token that represents ownership of a ledger entry, and ownership of an artwork is ownership of a security interest in an artist’s brand. 

Congress didn’t want the SEC to regulate the art market, nor did it authorize it to. The SEC has never thought it had the authority to regulate the art market, nor has it ever tried to until now. No one who participates in the art market wants the SEC to regulate it, even if they want regulation. And the SEC has no idea how to regulate the art market nor even a coherent theory of what to regulate and why.

Under a literal reading of the Howey test, the entire art market is a securities market. But, of course, that’s ridiculous. My initial intention was to write a conventional law review article to explain my observations but it proved impossible. I realized that, to prove my point, I needed to go further and create a work of conceptual art in the medium of legal scholarship. 

In 2019, I wrote an article styled as a prospectus for the sale of a conceptual artwork, titled SEC No-Action Letter Request, which consisted of sending the SEC a no-action letter request, proposing to sell a work of conceptual art as an edition of 100 for $10,000 each, which I would promote as an investment. I sent the no-action letter request and prospectus to the SEC, which responded with deafening silence. The SEC even refused to respond to my Freedom of Information Act (FOIA) request, citing “administrative privilege.” But it did eventually respond to someone else’s FOIA request by producing a few documents that were redacted entirely other than an email referring to my argument as “fanciful.” However, plenty of people noticed my artwork, including Matt Levine, who discussed it in his column. 

While Levine notoriously quips that “everything is a security” if you describe it in the right way, he was skeptical of my observations primarily because no one would buy what I was selling. The art critics thought it wasn’t a security because they thought I was joking.

While the art market superficially resembles a securities market because it enables art collectors to invest in an artist’s fame, the SEC can’t and shouldn’t regulate the art market. After all, the art market existed when Congress created the SEC in 1934. If Congress had wanted the SEC to regulate the art market, it would have said so. In fact, it provided a long list of the kinds of investments it wanted the SEC to regulate, which didn’t include artworks. What’s more, the SEC itself has never tried to regulate the art market, even issuing an opinion letter stating that the sale of an artwork is not the sale of an unregistered security.

While I enjoyed the conversation about my article-cum-artwork (which I distributed for free in a series of 200 certificates), nothing more came of it until Mike “Beeple” Winkelmann sold his Everydays: The First 5000 Days NFT for $69.3 million at Christie’s in 2021, which prompted an explosion of interest in NFTs. 

At that point, I saw an opportunity. Everyone insisted that my conceptual artwork wasn’t really a security because no one would actually buy it. But what if someone actually did?

After a little practice minting NFTs, I created an SEC No-Action Letter Request NFT (2021) and offered it for sale on OpenSea. At first, no one noticed, because I was a total unknown in the NFT space. But eventually, a collector offered to buy it for 0.5 ETH. I immediately accepted, and realized that I had to reinvent SEC No-Action Letter Request as a collection of multiple NFTs.

That led me to send another no-action letter request to the SEC, proposing to sell a conceptual artwork titled SEC No-Action Letter Request, this time as a collection of 50 NFTs, for 0.1 ETH each. I explained that the proposed offering was essentially identical to the one described in my previous letter, and that I continued to believe it constituted the sale of unregistered securities. But I also observed that the SEC had declined to respond to my previous letter and had taken no enforcement action against me, adding that I would take the SEC’s silence as acquiescence. Of course, that’s not how it actually works, but I was confident that the SEC wanted no part of me. In September 2021, I created the SEC No-Action Letter Request 3: Securitized NFTs collection and it sold out immediately, which I considered a point proved. I’m still waiting for a mea culpa from Matt Levine. 

The NFT market is just the conventional art market without physical objects. Or rather, the economic realities of the NFT market and the conventional art market are identical.

But NFTs are also uncanny because they reveal the economic reality of the art market. Sigmund Freud once described the uncanny (“unheimlich”) as something that makes the familiar seem unfamiliar. But I think it’s better described as something that shows up our familiarity as an illusion.

As I grew increasingly interested in the $40 billion NFT market, I noticed that a lot of people were worried about being sued by the SEC, and wished to know how to describe their NFT projects in order to ensure the SEC didn’t think they were selling securities. Little did they know, if the SEC thinks you’re selling an unregistered security, it doesn’t matter how you describe it. Whether the SEC can regulate depends only on the “economic reality” of the transaction. Nothing you say about it matters.

While the SEC kept saying it could regulate NFTs and the NFT market, it didn’t actually do anything, so eventually a lot of people stopped paying attention and didn’t worry about it. But when the SEC says it’s going to act, it usually does, and NFTs were no exception. In August 2023, the SEC announced a settlement with Impact Theory, LLC for selling unregistered securities, and in September it announced a settlement with Stoner Cats 2, LLC. Both Impact Theory and Stoner Cats created and sold NFT collections, which they described as investments in their businesses.

Those settlements shocked the NFT market. The Impact Theory settlement was less worrisome because Impact Theory suggested it would distribute some of its profits to NFT owners, which sounded like a traditional security. But the Stoner Cats settlement posed an existential threat because the sale of a collection of 10,320 NFTs, each of which was associated with a digital image, was essentially identical to every other NFT project. Though Stoner Cats didn’t promise to distribute any profits, it did observe that if it became successful, its NFTs might become more valuable. That’s literally the premise of NFTs. It’s also the premise of the art market.

Jonathan Mann has written and performed a new song every day since January 1, 2009. In 2018, Mann created and sold an NFT of his song B-U-I-D-L, and since then he’s sold every song he writes and performs as an NFT. When he saw the Stoner Cats settlement, he was worried because he thought: “they’re doing exactly the same thing as me.” The very next day, he wrote and recorded This Song is a Security (2024) and sold it as an NFT.

When securities lawyer Jason Gottlieb heard Mann’s song, he loved it, not only for the music but also for the message. And they eventually decided to bring a declaratory judgment action against the SEC, asking the court to declare that selling art doesn’t violate securities laws even if you sell it as an NFT. In Impact Theory and Stoner Cats, the SEC intentionally chose defendants with a strong incentive to settle, so it didn’t have to defend its argument in court. A declaratory judgment action would force the SEC to put up or shut up. That’s where I came in. 

I’d been talking about the issue for years, and had even asked the SEC to tell me whether I could sell NFTs, with no response. The SEC can’t very well argue that we have no claim, given that it ignored my no-action letters and then charged other people for doing exactly what I had described.

We sued the SEC in a Louisiana federal court on July 29, 2024 because I live in New Orleans and use a Louisiana LLC to sell my NFTs. Jonathan proposes to sell 10,420 NFTs of This Song is a Security and I propose to sell 10,320 NFTs of a conceptual artwork titled Cryptographic Tokens of Material Financial Benefit. Both of our NFT collections are materially identical to the Stoner Cats NFT collection. Essentially, we’re asking the SEC to say we’re allowed to sell our NFT collections, or prove it has the power to stop us.

When we filed our action, it got plenty of attention, but a lot of people were skeptical that the SEC would keep pursuing NFT projects. They didn’t have to wait long to find out. The OpenSea Wells notice means that the SEC is planning to regulate the NFT market; we just don’t know how. But it also has to deal with us in federal court. It’s one thing for an agency to make claims about the scope of its authority in a settlement order. It’s another thing entirely to convince a federal judge.