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Crypto Law/Level III · Tokens and securities law/3.1 The Howey test/Lesson 4

Profit from the efforts of others

The third Howey element, where most token cases are decided: what counts as profit, whose efforts matter, and how the SEC’s 2026 interpretation ties it to the issuer’s own promises.

Education, not legal, tax or investment advice. Crypto law differs between countries and states and changes often. Check the current rules where you live with a qualified lawyer or tax adviser before you act.

The lean path

The cheapest, lowest-tax, simplest and most private route the law allows, best first. Each step names the rule it rests on and the condition that keeps it lawful.

  1. Zero-cost route: make no representations of essential managerial efforts. Under SEC Release 33-11412 (March 2026), without issuer promises conveyed before or at the sale, a buyer’s profit expectation is not reasonable; the catch is that whitepapers, websites and official social accounts all count.
  2. Ship the product before selling, so buyers purchase to use it; Forman (1975) holds that consumptive purchases fall outside securities law. The catch: an objective test applies, so marketing that stresses returns or price can still convert a usable token into an investment.
  3. If promises were made, the 2026 interpretation lets a token separate from the investment contract once the issuer fulfils them as it defined them, or publicly abandons them; antifraud liability for past statements survives, and courts are not bound by this SEC view.
  4. Keep unaffiliated holders’ hype unaffiliated: statements by independent holders do not count unless the issuer authorised or colluded in them. Never pay or coordinate promoters, and keep a dated log of every official statement and what ‘done’ means for each.

MaterialsUnited Housing Foundation, Inc. v. Forman, 421 U.S. 837 (1975) and SEC v. Edwards, 540 U.S. 389 (2004)SEC Release No. 33-11412 (March 17, 2026), section IV on how a crypto asset becomes subject to, and separates from, an investment contractA project’s whitepaper, roadmap and official social media posts, saved with dates

Wonder

  1. Does ‘solely’ from the efforts of others mean the buyer must do nothing at all?
  2. Can a token people actually use still be sold as an investment?
  3. Once a project is built, do its old promises still make the token an investment contract?

Explore

  1. Howey speaks of profits ‘solely’ from the efforts of the promoter or a third party (lesson 3.1.1). Courts do not read ‘solely’ literally. In SEC v. Glenn W. Turner Enterprises (1973), the Ninth Circuit asked whether ‘the efforts made by those other than the investor are the undeniably significant ones, those essential managerial efforts which affect the failure or success of the enterprise.’ The Second Circuit likewise treats ‘solely’ as no literal limitation. Courts have also held that administrative, ministerial or clerical work, even if necessary, is not the kind of managerial effort that satisfies this element.
  2. The Supreme Court restated the element in United Housing Foundation, Inc. v. Forman, decided June 16, 1975. Residents of Co-op City, a large nonprofit housing cooperative in New York City, had bought ‘stock’ that entitled them to lease apartments. The Court held it was not a security: the touchstone is ‘a reasonable expectation of profits to be derived from the entrepreneurial or managerial efforts of others’, and ‘when a purchaser is motivated by a desire to use or consume the item purchased’, the securities laws do not apply. The sales bulletin had stressed the project’s nonprofit nature rather than profits.
  3. Profit has a broad meaning. In SEC v. Edwards, decided unanimously on January 13, 2004, ETS Payphones sold payphones with a leaseback paying a fixed 14% annual return. The Court, per Justice O’Connor, held that profits include ‘dividends, other periodic payments, or the increased value of the investment’, and that there is no reason to treat fixed returns differently from variable ones. In token cases, courts treat the test as objective. As the Telegram court put it, the inquiry focuses on ‘the promises and offers made to investors’, not each buyer’s private motive, and the LBRY court accepted that a token can have both consumptive and speculative uses.
  4. For years the industry relied on a 2018 speech by William Hinman, then director of the SEC’s Division of Corporation Finance, suggesting that when a network is ‘sufficiently decentralized’ buyers no longer expect a person or group to carry out essential managerial efforts. It was a staff speech, not law. On March 17, 2026 the Commission issued its own interpretation (Release No. 33-11412). It says an investment contract forms when an issuer induces an investment with representations or promises to undertake essential managerial efforts from which buyers would reasonably expect profit, and that without such promises being conveyed, a profit expectation would not be reasonable.
  5. The interpretation tests those promises four ways. Source: statements by the issuer, its affiliates or agents count; hype by unaffiliated holders does not, unless authorised by or colluding with the issuer. Timing: promises must reach the buyer before or at the sale; later promises do not convert an earlier sale. Channel: contracts, whitepapers, official websites and social media accounts count. Detail: milestones, timelines, personnel, funding and an explanation of how holders will profit likely create the expectation; vague statements with no actionable business plan likely do not. The specific wording problem is covered in lesson 5.1.3.
  6. The interpretation also says the link can end. A token separates from the investment contract when the issuer has fulfilled its promises, judged by how the issuer itself defined goals such as ‘decentralization’, or when buyers could no longer expect them to be met, for example after a widely announced abandonment. Failure may still bring antifraud liability. This is the SEC’s view, not a statute or a court ruling. A practical check: list every promise in a project’s whitepaper, roadmap and official posts, with dates, mark which are essential managerial efforts, and write what ‘done’ would mean for each.

Key facts

  • SEC v. Glenn W. Turner Enterprises, 474 F.2d 476 (9th Cir. 1973), asks whether others’ efforts are the undeniably significant, essential managerial efforts affecting the enterprise’s success or failure.
  • United Housing Foundation, Inc. v. Forman (decided June 16, 1975) held that shares in the Co-op City housing cooperative were not securities.
  • SEC v. Edwards (decided January 13, 2004) held that a scheme promising a fixed return can be an investment contract.
  • The ETS Payphones leaseback in Edwards promised purchasers a fixed 14% annual return.
  • William Hinman’s ‘sufficiently decentralized’ remarks were made in a speech on June 14, 2018 while he was director of the SEC’s Division of Corporation Finance.
  • The SEC’s March 2026 interpretation says issuer promises must be conveyed before or at the time of sale to shape a buyer’s reasonable expectation of profit.

Exercise nine, six, three, one

9CollectList up to 9 statements a token project made about what its team would do, quoting each and noting the date and where it appeared.
6ClusterSort them into 6 groups: technical development, business deals, price or market support, revenue or yield, decentralization goals, and statements by people outside the team.
3DistillReduce the 6 groups to 3: promises of essential managerial effort, routine or ministerial work, and statements the issuer is not responsible for.
1CrystallizeWrite 1 sentence explaining why the third Howey element depends on what the issuer promised buyers, not on what each buyer privately hoped.

Fact check

Dates, figures and claims checked against the published sources listed below.

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