The Howey Test#
The Howey Test is a legal framework used to determine whether a financial instrument, such as the ERG token, is classified as a security and whether it qualifies as an "investment contract" under US securities law. The test is named after the Supreme Court case SEC v. Howey, which established the criteria for determining whether a particular transaction constitutes an investment contract.
The test has four criteria that must all be met for an instrument to be considered an investment contract: investment of money, common enterprise, reasonable expectation of profits, and entrepreneurial or managerial efforts of others.
In the case of ERG tokens, they are regularly traded on cryptocurrency exchanges. They can be mined by purchasing hardware and paying for electricity, which suggests that the first and second criteria of the Howey Test may be met. However, the promotion of the ERG tokens within the Platform is to improve security and functionality through proof-of-work mining and the advancement of the eUTXO system rather pitched as an investment with a reasonable expectation of profits. Additionally, the original Platform and Foundation developers have not taken steps to increase the market value of ERG tokens or sell them to investors as an investment. Therefore, it is likely that the third criterion of the Howey Test is not met.
The fourth criterion, entrepreneurial or managerial efforts of others, requires that the efforts of those outside the investor are essential to the success or failure of the enterprise. While the Foundation undeniably plays a large role in the development and functionality of the Platform currently, the ERG tokens ecosystem is becoming more decentralised and independent of the Foundation or any other centralised entity. Ergo is an open-source and permissionless economy, allowing anyone to build applications or launch tokens without the permission or assistance of the Foundation.
This decentralisation will increase over time as more third-party developers bring value to the Platform. The Foundation is community-led and has made great efforts to inform and encourage discussion with the community. If the foundation were to vanish, the development would not need to stop, and miners could extract and spend all of the Foundation's funds through storage rent. Therefore, it is difficult to argue that the success of the Platform and the value of ERG tokens necessarily rely on the Foundation or its members. Overall, the value of ERG tokens is becoming more market-driven and independent of the Foundation, which suggests that the fourth criterion of the Howey Test is not met.
As a result, ERG tokens should not be considered securities for federal securities law purposes.
Please note, this page is solely an opinion to answer some questions within the community based on the established framework of the Howey Test and does not constitute investment or legal advice.