The yield side: what the contract actually does with the coins. The clearest description of this product in a federal document is the SEC's 2022 settled order concerning BlockFi Lending LLC, which the company consented to without admitting or denying its findings. The order describes an arrangement "through which investors lend crypto assets to BlockFi in exchange for BlockFi's promise to provide a variable monthly interest payment", with the company generating that interest "by deploying its assets in various ways, including loans of crypto assets made to institutional and corporate borrowers, lending U.S. dollars to retail investors, and by investing in equities and futures". The order quotes the account terms, which granted the company the right "to pledge, repledge, hypothecate, rehypothecate, sell, lend, or otherwise transfer, invest or use any amount of such cryptocurrency, separately or together with other property, with all attendant rights of ownership, and for any period of time and without retaining in BlockFi's possession and/or control a like amount of cryptocurrency, and to use or invest such cryptocurrency at its own risk", and finds that the company "had complete legal ownership and control over the loaned crypto assets". The order also notes that BlockFi did not hold private keys for the investors' addresses; the crypto was sent to the company's own addresses at third-party custodians.
That combination is the whole point of the distinction this page draws. A depositor in such a product does not own particular coins that a receiver could later hand back. They own a contractual right to be repaid, and they rank with the platform's other creditors if the platform cannot pay. Assets a platform holds in custody for a customer, without borrowing them, are a different arrangement with a different and unsettled answer in insolvency, which the crypto custody page takes up.
Why the securities question arrived. The BlockFi order found that the accounts were securities on two independent grounds: they were notes under Reves v. Ernst & Young and its progeny, and they were also offered and sold as investment contracts under the Howey test. Because no registration statement was filed or in effect and no exemption applied, the order found violations of Securities Act sections 5(a) and 5(c). It separately found violations of sections 17(a)(2) and 17(a)(3) over a statement on the company's website about its collateral practices, and a violation of Investment Company Act section 7(a) for operating as an unregistered investment company. BlockFi agreed to pay a $50,000,000 civil penalty to the Commission, to stop offering the accounts to new United States investors, and to come into compliance with the Investment Company Act. Registration is not a bureaucratic detail here: what it would have supplied is the disclosure a lender needs in order to judge whether the borrower can repay, which is the subject of the unregistered securities page.
What happened when the money was called for. In January 2023 the SEC sued Genesis Global Capital and Gemini Trust Company over the Gemini Earn program, alleging an unregistered offer and sale of securities through a "tri-party Master Digital Asset Loan Agreement" under which investors provided crypto assets to Genesis, which "pooled the crypto assets from Gemini Earn investors with assets from other investors" and lent them on to institutional borrowers at a higher rate than it paid out. The complaint alleges that in November 2022 Genesis "unilaterally announced that it would not allow hundreds of thousands of retail investors to withdraw their crypto assets from Gemini Earn because of 'withdrawal requests which have exceeded our current liquidity'", and that at the time it held approximately $900 million "in investor assets from approximately 340,000 Gemini Earn investors". Genesis later consented to a final judgment permanently enjoining it from violating Securities Act section 5 and to a $21 million penalty, without admitting or denying the allegations, and the settlement provides that the SEC receives no part of the penalty until after all other allowed claims in the bankruptcy, including those of Gemini Earn retail investors, have been paid. That last term is the creditor relationship stated in dollars.
The borrowing side is a margin problem in different clothing. Pledging crypto for a dollar loan leaves the borrower holding the price exposure, which is often the point: it raises cash without a sale and therefore without a disposal for tax. What it adds is a collateral test. The loan is written at a loan-to-value ratio, and the platform's terms set a level at which it can call for more collateral or sell what it holds. Because the collateral is an asset that can move a great deal in a day, that level can be reached quickly, and a forced sale is itself a taxable disposal at whatever price the sale achieves. Two further terms deserve reading before signing rather than after: whether the platform may use the pledged asset while it holds it, and what happens to the collateral if the platform itself fails.
