SEC Staff Issues Statement on Protocol Staking Activities

The staff of the Securities and Exchange Commission’s Division of Corporation Finance (the “Staff”) recently released a statement providing long-awaited guidance on whether certain “protocol staking” activities implicate federal securities laws.¹ The Staff concludes that under specific conditions, staking crypto assets² on proof-of-stake (“PoS”) networks does not constitute an offer or sale of securities under the Securities Act of 1933 or the Securities Exchange Act of 1934.

It is important to note that while the Statement offers some clarity for industry participants, it is not legally binding and legal risk remains, particularly in the form of private litigation and potential enforcement activity outside the scope of the facts outlined by the Staff. One SEC Commissioner has publicly dissented from the Statement,³ underlining continuing differences in regulatory outlook on staking activities.

Protocol Staking and the Staff Statement

Protocol staking is a mechanism used by PoS networks to validate transactions and maintain network integrity. Network participants, often referred to as “node operators,” stake crypto assets to become eligible to validate blocks of data and update the network’s state. In return for these validation services, participants receive rewards, which may include newly minted tokens and a share of network transaction fees.

In its Statement, the Staff analyzed three core staking models:

• Self (or Solo) Staking: the crypto asset owner runs its own validator node and directly stakes the crypto assets it controls.
• Self-Custodial Staking with a Third Party: the crypto asset owner retains custody and private keys but delegates validation rights to a third-party operator.
• Custodial Staking: a custodian holds customer assets and stakes them on their behalf without using those assets for other purposes or exercising discretion over when or how to stake.

According to the Staff, each of these models (together, the “Protocol Staking Activities”) involves administrative or ministerial activity, rather than entrepreneurial or managerial decision-making that would support a finding of a securities offering. The Staff therefore takes the view that under the Howey⁴ test, which defines an “investment contract,” the Protocol Staking Activities do not involve the offering or sale of a security under the Securities Act. Under Howey, an investment contract (and therefore a security) exists where there is

1. an investment of money,
2. in a common enterprise,
3. with an expectation of profit,
4. derived from the efforts of others.

The Statement concludes that the Protocol Staking Activities do not meet the fourth prong of the test. To the extent third parties are involved in staking activities, the Statement views their role as administrative or ministerial, rather than the type of entrepreneurial or managerial activities that drive financial returns. Even in models where a third-party node operator or custodian is involved, the Statement views the efforts of such third parties as operational rather than entrepreneurial and therefore insufficient to satisfy Howey’s “efforts of others” requirement.

The Staff also emphasized that self-custodial participants staking directly with a third party retain control or ownership of their assets throughout the staking process. For such participants, the expectation of rewards stems from transparent, protocol-governed actions, not the discretion or expertise of a promoter. With respect to custodial staking, the Statement notes that the custodian stakes the crypto assets on the owner’s behalf for an agreed-upon portion of any rewards, but that the staked crypto assets are not used by the custodian for operational or general business purposes and are not used to engage in leverage, trading, speculation or discretionary activities. The Statement specifically notes that the custodian does not decide whether or when to stake crypto assets nor how much of an owner’s crypto assets to stake. According to the Statement, the custodian simply is acting as an agent in connection with staking the deposited crypto assets on behalf of the owner.

Treatment of Ancillary Services

The Statement also addresses certain types of “ancillary services” that are offered by service providers in connection with protocol staking. These include:

• Slashing coverage: where a service provider reimburses or indemnifies users if their validator is penalized for network violations;
• Early unbonding: where a service provider allows users to withdraw staked assets before the end of a protocol’s lock-up period;
• Modified reward payment timing: where the service provider delivers earned rewards at a cadence and in an amount that differs from the protocol’s set schedule; and
• Aggregation services: where a service provider pools assets from multiple users to meet the minimum staking amount required by a staking protocol.

Each of these services, whether offered separately or in some combination, is characterized by the Statement as ministerial and not managerial or entrepreneurial. The Statement therefore concludes that these ancillary services do not convert the staking relationship into an investment contract. The Statement does note, however, that if a custodian does select whether, when, or how much of an owner’s crypto assets to stake, its activities are outside the scope of the Statement.

A High Stakes Development: What the Statement Means in Practice

In practical terms, the Statement represents a near-complete about-face from the SEC on the question of staking. Starting a little less than two years ago, the SEC sued multiple crypto asset exchanges, alleging that the offer and sale of participation in delegated staking programs constituted unregistered offers and sales of investment contracts (and therefore securities) in violation of Section 5 of the Securities Act.⁵ Those complaints have now been withdrawn,⁶ but more than one federal court has already concluded that those claims by the SEC regarding delegated staking programs were sufficiently plausible to survive a motion to dismiss. We consider below some of the major implications of the Staff’s Statement.

Continuing Litigation Risk: While the Statement considers custodial staking to involve only ministerial activity by the custodian of crypto assets, it is possible that a federal court could view custodial staking as creating an unregistered investment contract. Litigation by private actors and potentially even state regulators acting under state securities laws will therefore continue to be a risk to delegated or custodial staking programs for the immediate future.

Exchange Traded Products and Funds: There are now several exchange-traded products that hold crypto in the United States, and other products that hold other PoS crypto assets, such as Solana, that have filed registration statements with the SEC.⁷ These products have thus far not staked the crypto assets that they hold, and sponsors and investors in these products will likely welcome the Staff’s view that self-staking and custodial staking do not result in the creation of securities. These exchange-traded products must also consider whether engaging in staking may pose concerns for their status as grantor trusts, and while the Statement does not resolve or speak to those tax questions, it may add momentum towards the resolution of that tax issue as well.

Liquid Staking and Restaking: The Statement is careful to note that it does not discuss “liquid staking,” “restaking” or “liquid restaking.” Users of liquid staking applications receive a so-called “liquid staking token.” This token represents their staked crypto asset, and the token can be used in other activities, all while continuing to participate in the proof-of-stake protocol.⁸ The developers and users of such protocols should not view the Statement as touching or opining upon their activities: liquidity staking and restaking remain uncertain regulatory territory for the moment.

Discretionary Staking and Terms of Service: Some delegated or custodial staking providers may, by their terms of service, retain discretion on when, whether and in what amount to stake owners’ crypto assets. Such discretion may place the custodial staker outside the Statement’s terms, even if this discretion is not exercised, or is rarely exercised in practice. To remain within the bounds of the Statement, custodial stakers should carefully review their terms of service and revise or omit all language that may suggest that they retain any discretion on when, whether and how to stake owners’ crypto assets.

Conclusion

The Statement on protocol staking is the latest in a series of crypto-related statements from the Staff this year.⁹ While this Statement may provide a helpful roadmap for structuring staking services in a way that avoids triggering federal securities laws, it is important to note that it is not binding law. The SEC itself has not issued a formal rule or Commission-level determination on staking, and the Statement expressly notes that variations in fact patterns could lead to different outcomes.

Those caveats notwithstanding, the Statement represents a long-awaited shift in the SEC’s views and will be welcomed by the crypto industry generally. PoS networks and protocols have proliferated over the last several years, and many have viewed restrictions on staking as unduly denying crypto asset holders of a basic benefit accruing to their assets. The Statement is an important step towards undoing those restrictions. That said, the Statement does appear to emphasize that staking (whether self-staking or custodial staking) is outside of the scope of securities laws when it is driven primarily by protocol requirements rather than by the custodian’s managerial decisions or commercial concerns. Stakers and custodians must consider whether their staking arrangements are adequately driven by protocol requirements rather than managerial or other considerations.

The Statement may also offer some insight into the SEC’s increasing willingness to treat protocols themselves as being unsuitable for regulation under the securities laws. It is too soon to tell whether this Statement could be the beginning of a more comprehensive regulatory (or deregulatory) approach to decentralized finance, but DeFi enthusiasts will likely take a positive view.