The Chuck E. Cheese Test for Whether a Token is a Security

By: Steve Masur

Cryptocurrency markets are still nascent, and most people are still trying to work out how they will develop, and how blockchain can be applied to the wider variety of business cases. There is not much guidance from the government, and most people are confused regarding what is acceptable to do, or not. I recently got off the phone with an entrepreneur and his compliance officer, who are lauching a new token, and wanted to do an ICO. They were trying to decide the safest way to proceed, given the lack of guidance. In their confusion, they were mixing up and conflating IRS and SEC rules and trying to decide how to disclose the attributes of their token under SEC rules, or whether to withhold 30% of any proceeds, in case the proceeds would be considered revenue instead of capital gains. it just goes to show that there is a lot to know, and a lot of good and bad information floating around the crytosphere.

….But what everyone’s talking about is whether a token can be defined as a utility token, and not a security to avoid securities laws.

The truth is that both could happen. The token could be considered a utility token, with proceeds taxable as income, and it could also be considered a security, subject to SEC disclosure requirements.

So what should a company with these sorts of questions do?

As a means of forming an answer, I came up with the Chuck E. Cheese test. Is the primary use of the token to buy video game plays in an arcade, or is it to take the token out to the parking lot and trade it for marbles, bubble gum, drugs, Pokemon, or Cryptokitties? Are the sales in the parking lot one time only, like a New York Knick’s, Phish, or Burning Man ticket, or can you trade in and out of the token speculatively in markets of ever-changing value?

If it’s the former, without the latter, it might just be a utility token, made primarily to be used for a particular purpose. But now, especially after Munchee, Senate hearings and SEC public statements, if it looks, smells and tastes like it could be speculatively traded, then without regard to its utlity, it’s probably seen as a security by the SEC.

Personally, I like the Chuck E Cheese test because I like video games, and it just seemed so perfect that Chuck E. Cheese tokens were gold and looked just like the media’s representation of Bitcoin. Also, I just met Nolan Bushnell, my childhood hero, the founder of Atari AND Chuck E. Cheese’s. “Heh, heh. ….that was cool.” My punk rock band from the 1990s even played a song about him. Even Nolan thought THAT was cool.