ICO Law and Compliance: Interview with Roger Royse

On Monday, May 21st, 2018, we got the chance to talk with Roger Royse, Founder of Royse Law Firm. Roger works with companies ranging from newly-formed tech startups to publicly-traded multinationals in a variety of industries. The topic of our interview was the legal status of blockchain and ICOs, the current state of the law, and regulation and taxation for blockchain projects in 2018.

Q: Hello, Roger! Thank you for taking the time to join us in today’s interview. Before we start, could you introduce yourself, please?
A: Hello, everyone. I’m Roger Royse, Founder of the Royse Law Firm and Tax Firm based in Silicon Valley, with offices in San Francisco, Los Angeles, and outposts in China as well as on the East Coast in Washington, D.C.

Q: What’s your opinion about ICOs and cryptocurrencies? What’s their importance in today’s world?
A: Let me tell you about cryptocurrencies and ICOs. It’s an extremely disruptive idea — it’s new and huge. It has a lot of potential to add one more source of funding to the economy. This is a place for technology that has outpaced the law. But you know, we probably should have seen this coming.

People started issuing report cards. Thus, the market was set for something like this to happen, and what’s really taken this to the next level has been technology. Technology, as you know, is getting better and better all the time. I think the idea of crypto, tokens, and ICOs is really going to change the way companies do business, because if you think about it, in the past, you really had to give up something pretty big to raise money, unless you were able to actually pre-sale a product or service.

That was the missing piece here, because companies can have a great idea, and you’d always rather raise money through sale and revenue than give up a piece of your company. It’s much less expensive money.
Up until recently, there was no really efficient way for a company to do that. But now, there is. Like I say, technology has caught up with market demand. The problem we have is that the law is hanging way back, and we have old legal principles, you know, dating back to the 1930s, when we all had been struggling a little bit in applying the law and rules to new products and new business models. The big problem with that is not that those old rules don’t apply to what we’re in now. In fact, it’s just the opposite; they do apply, and they are restricting products, methods, and systems that I think otherwise would be very good for commerce and very good for the economy, good for this country.

Q: Why is the legal status of ICOs important? What does it give/guarantee?
A: We’ve got these old antiquated rules that were designed to protect investors in a time when information on companies was very hard to come by. It really is forcing a lot of these companies that want to do tokenization outside the U.S. for more broadly based offerings.

So I think the advantage here is that they’re allowing companies to raise money without diluting our ownership stakes. The problem is that we don’t have a good regulatory structure that would make that as easy as it probably ought to be. So the legal status of ICOs is very important, especially here in the U.S., to figuring out which category or which box a token, a coin, or somebody fits into. It can either be, broadly speaking, a security, a commodity, or a financial instrument like money or currency, or it can be all three, technically.

There’s a pathway to be in compliance as a security. We’ll take that position almost always. With the ICO, that is what we’re doing. And we do a lot of these, and we just comply with the laws. We do the disclosures, we do the registration filings, but we haven’t registered any. We will do the filings and do the disclosures. So that legal status is going to be very important.

Q: What’s the current state of the law in terms of regulation and taxation for ICOs in 2018?
A: Now, the current state of the law here in the U.S. is still a little confused, because like I say, the laws here are designed for stock instruments, dead instruments, some derivatives. They’re really not designed for a token, which, in my opinion, the more utility it has, the more it looks like a presale of a product or service, or something like that. Our laws are just not designed for that. Plus, the infrastructure is not there. And the banking infrastructure is not there, as well. There are problems inherent in the technology itself. They probably will be solved by the time I’m done with this interview. But things like KYC (know your customer) anti-money-laundering make it very difficult to shoehorn these tokens into the legal infrastructure that’s been sent out for securities. So that’s the problem in the current state of the law. We have regulation, but no good way to register these things that I have found.

Now, speaking about the current state of the regulatory environment, I know a lot of companies that want to take the position of having a lot of utility in their tokens for their security, and they’re not regulated by anybody. That’s a really bad answer, because if you’re not regulated by the SEC, keep in mind, you still have CFTC and FINRA (Financial Industry Regulatory Authority). And I can tell you that regulation under those agencies is going to be a lot more difficult, especially under FINRA, for lots of reasons. So I’d rather do the token security, for all purposes. And in fact, since our chairman has stated that he’s never seen an ICO that wasn’t a security, I think it’s likely that the regulators are going to look at you that way.

Q: What’s the process of ICO legalization?
A: The process that we have gone through has pretty much become market standard. It’s week one, and you have a presale of a security through an instrument that has become known in the market as a soft CFT, and we’re all using it. It seems to work,but needs to be accepted by the market. Then we sell those. United States investors provided the role credited to one of our exemptions for sales to accredited investors.

Now, of course, the token itself wants to be marketed to a much broader group. We just don’t have a good way of doing that here in the United States to unaccredited investors. So the token sale itself is usually launched in either a foreign offering or a foreign-targeted offering under what we call regulation S. And of course, compliance requirements will follow, but they’re relatively easy to deal with compared to the alternative. That’s the legal structure.

Q: How do ICOs deal with governmental pressure?
A: I can tell you that they’ve just moved offshore. There’s just been a huge flight of companies to other jurisdictions to do these now.

Puerto Rico, as you know, has got a pretty good system in place. It’s been attracting a lot of these deals because of their favorable tax regime. But we still have a regulatory regime, even if you’re in Puerto Rico. Some countries are more liberal than the U.S. I’ve been getting a lot of these deals; Switzerland comes to mind. Lichtenstein is in the process of putting in place some favorable legislation. I’ve heard of Malta, Bulgaria, and Estonia as good technical infrastructure platforms for ICOs, as well. I’ve been reading about a lot of countries in the world that host ICOs. I think the standard that is going to emerge is probably going to be in eastern Europe, probably through Switzerland, Liechtenstein, or someplace like that, but it’s still sort of shaking out. Eventually, there’s going to be a market standard, and everybody will flock to that.

Q: How to avoid legal mistakes that could kill your startup?
A: As you know, I’m the author of a book. It’s called Dead on Arrival: How to Avoid the Legal Mistakes That Could Kill Your Startup. The book goes through all of the problems that we have seen here. I’ve seen, over the last 30 years that I’ve been practicing law, the problems that startup companies have with forming a company contract, retaining good people, financing the company, and exiting. I will tell you that the book is based on my many years of experience in which I’ve practiced all over the world and the country. I started in the Midwest. I’ve been in the oil patch working with oil men. I’ve been on Wall Street working with investment bankers, in Hollywood with both talent and studios, and, finally, here for the last 20 years in Silicon Valley, working with technology countries and technology companies.

Our practice is international. Companies come from all over the world. And one of the things I’ve noticed is that it can be a different geography and different industry, market, or area, but the same problems and mistakes. It seems that people always make the same legal mistakes. The reason I wrote the book is that I just got tired of seeing companies come into my office with really great technology, ideas, and teams that came in on the verge of getting funding, and then some things fell apart on them because they made some very simple, fundamental legal mistake early on their career. We can keep that from happening. And the book goes through this as to how to do that. I think the book is important because there’s a lot of things your lawyer is not going to tell you if you don’t ask the exact right question, and you have to be informed.

I think a person has to be educated, has to know what questions to ask if you want to get the right answers.

Q: Why is South Korea scared to legalize ICOs, and how does this influence the global market?
A: Some other countries have taken an even more restrictive approach. The U.S. at least has taken the approach that, look, we’re going to allow ICOs, provided you can just fit within our existing regulatory structure. Other countries, as you know, such as South Korea, see this as a threat, a threat to their consumers, and they are very protectionist as to the buyers of these products. They see a threat to the financial system. Maybe it’s just too new and early for these countries to have a good comfort level. So you’re going to find restrictions if you do these deals in other countries, depending on where the buyers are located or where you do your marketing activities.

Q: In your opinion, why can’t governments stop crypto?
A: I don’t think governments are going to stop crypto any more than they could stop the Internet. It’s too powerful, and it is something that the public definitely wants. I can understand why the established, entrenched industries are going to do everything they can to regulate this new, nascent industry out of existence. It’s just too big an idea. So there might be roadblocks along the way, and there might be some bloody shirts in the meantime, as new and innovative young entrepreneurs do battle with big industry and also big government. But eventually, new ideas, the best ideas, will always align the future for ICOs. I can tell you that I’ve seen a slowdown in the market since a year ago. I still see white papers every day. We do lots of these deals, but the initial hysteria has passed, and it’s been a good thing. There’s been a shakeout, because I used to see ideas that were just not suitable for ICOs trying to do these things: trying to do tokenization. And we’ve been pretty picky as a law firm as to which ones we want to get involved in. We want to make sure it’s a business model that’s going to work. And I think there’s been enough bad press about bad deals. There’s been enough knowledge in the market that the companies that don’t lend themselves to tokenization are going to stay away from it. There are companies that are going to rise to the surface and go ahead and do their deal.

Q: What’s the future for ICOs?
A: The future of the ICOs is likely to shape the future of blockchain. The two are locked together. Real innovation on the blockchain can happen only if creators remain flexible and unconstrained in their ability to raise funds. Disruptive innovations will not come from big-industry players. It will be the young, creative startups that will shape the future, and they desperately need a simple and flexible funding mechanism to leverage their ideas.

Q: What projects are the most eye-catching for you?
A: Well, I like to see a couple of things. I have a bias, like everybody else, towards seeing an existing business that has proven to me that consumers really like the product or whatever that product is in, whatever industry that lends itself to digital commerce, because that’s sort of a first step.
So once we’ve got an existing business, then I like to see the kind of business that really lends itself well to tokenization. Also, I have a sort of gut test if somebody explains it to me and I immediately think to myself, “Oh, yeah, that makes a perfect sense! That’s right. Why didn’t I think of that?” That’s what I want to say. I think those have a better chance than the ones where you’ve got a powerpoint that takes you 90 minutes to go through, and it’s still not entirely clear on the back end how you’re going to make money at this. Those are much more problematic. I think the good ones seem sort of obvious, and the reason they do is because we’re talking about products and services that just lend themselves to digital trading and digital commerce.

Check out this video interview with Roger Royse to find out more information about the role of law in the crypto world: