The Uniswap case is another victory for the crypto community.

Uniswap case is a win for the crypto community.

Recently, another heavyweight crypto project has achieved a victory in the US legal system. Judge Katherine Polk Failla of the Southern District of New York dismissed a class-action lawsuit against Uniswap. The plaintiffs claimed that Uniswap should be held responsible for the losses caused by fraudulent tokens on the protocol.

The lawsuit was filed by retail trader Nessa Risley in April 2022 on behalf of other Uniswap users, accusing the developers and investors of Uniswap of violating securities laws.

The plaintiffs claimed that the exchange is an unregistered broker-dealer and trading platform that offers unregistered securities and allows token issuers to deceive investors. The tokens involved include Matrix Samurai (MXS), Rocket Bunny (BUNNY), and Alphawolf Finance (AWF). The plaintiffs requested the cancellation of the smart contracts they signed to purchase fraudulent tokens and compensation under the Securities Act of 1933 and the Securities Exchange Act of 1934.

DEFI platforms are not responsible for the actions of third-party token issuers

This ruling establishes a legal precedent that open-source developers in the United States should not be held responsible for the actions of third parties on the decentralized protocols they create.

Judge Katherine Polk Failla (who is also presiding over the SEC v. Coinbase case) wrote, “This case is more akin to holding the manufacturer of an autonomous vehicle responsible for the owner’s violation of traffic rules or bank robbery.”

Although the judge acknowledged that the plaintiffs suffered economic losses, Failla ruled that Uniswap Labs and its major investor LianGuairadigm should not be held responsible for the damages caused by the actions of third-party token issuers.

The judge stated, “In a perfect (or at least a more transparent) world, plaintiffs would be able to seek compensation from the actual issuers who defrauded them, and plaintiffs can only argue that Uniswap Labs facilitated the transactions at issue… [but] by its very nature, the protocol lacks a centralized ownership structure… The Court declines to expand federal securities law to cover the alleged conduct and concludes that plaintiffs’ concerns are best addressed by Congress rather than by seeking a solution from this Court.”

In addition, the judge classified Ethereum (ETH) as a commodity in her opinion on the ruling, rather than a security. She added that she does not believe that the token sale of Uniswap can be subject to the constraints of the Securities Act of 1933 and the Securities Exchange Act of 1934.

Whether Ethereum should be classified as a security or a commodity is a subject of controversy. Earlier, Gary Gensler, the chairman of the US Securities and Exchange Commission (SEC), stated that all cryptocurrencies except for Bitcoin are securities and fall under the jurisdiction of his agency. However, the Commodity Futures Trading Commission (CFTC) insists that Bitcoin and Ethereum are commodities.

Judge Failla is currently overseeing the SEC’s lawsuit against Coinbase, which accuses Coinbase of listing multiple unregistered tokens. Additionally, she has previously presided over lawsuits against Tether and Bitfinex.

Laying the Foundation for Future DeFi Cases

The court’s opinion on dismissing class action lawsuits may impact future litigation against decentralized protocols and even those lawsuits alleging violations of U.S. securities laws.

Uniswap operates on blockchain technology in a decentralized finance (DeFi) model, where the decentralized nature means that the protocol cannot control which tokens are listed on the platform or who can interact with it. According to DappRadar data, Uniswap V3 has reached a trading volume of $7 billion in the past 30 days.

The appeal of DeFi partly stems from its permissionless nature, where anyone can create and list their own tokens on exchanges like Uniswap.

Judge Failla believes that the insufficient authority of Uniswap in charging transaction fees and other aspects, such as governance tokens, does not establish liability for the exchange’s partners.

The ruling states that the core functionality of the exchange’s smart contracts should be considered separately from the code supporting the liquidity pool, which is drafted by the token issuer to enable trading of newly created tokens.

The judge wrote, “These foundational agreements, unlike the token contracts specific to each liquidity pool and drafted by the issuer, are not a comprehensive code offered by the defendants but rather trading pair or token contracts drafted by the issuer.”

The application of U.S. securities laws to DeFi lacks clarity at present, and the judge cited a warning issued by SEC Chairman Gary Gensler in September 2021, stating that such projects are “receiving greater scrutiny.” She wrote, “Whatever issues DeFi transactions raise, the law is currently being formulated around these exchanges, and regulators may one day address this gray area.”

Greater Impact than the XRP Victory?

This ruling is a victory for cryptocurrencies as it clarifies how U.S. securities laws apply to decentralized finance (DeFi). Cryptocurrency lawyers can now use this case as a precedent to defend DeFi applications and protect them from future similar allegations.

Bill Hughes, a lawyer at Consensys, believes that this decision will have more legal impact than the decision in the XRP case, as it establishes that cryptocurrency exchanges cannot be held responsible for losses suffered by users due to tokens issued by third parties.

Legal experts at Brown Rudnick tweeted that the court ruled that software (in this case, the cryptocurrency exchange) cannot be held liable for losses incurred by its users or damages caused by third parties. This case and similar cases will be the focus of legislation in the next decade, as the rise of artificial intelligence and decentralized finance (DeFi) inevitably confronts unknown territories in the U.S. legal system.

This ruling may affect the outcome of the Coinbase and SEC lawsuit. As previously reported by LianGuai, the SEC filed a complaint against Coinbase in June, accusing the exchange of facilitating unregistered securities transactions. However, in another case between the SEC and Ripple in July, the court ruled that Ripple’s sale of XRP tokens did not entirely violate securities laws, dealing a blow to the SEC’s argument.

However, the Web3 industry still faces significant regulatory barriers in the United States. Last week, the US Internal Revenue Service proposed legislation that requires DEXs, NFT markets, and other entities facilitating digital asset transactions to comply with strict reporting requirements when serving US users.

Stephen LianGuailley, a partner at Brown Rudnick law firm, stated on Twitter: “I don’t believe this case means that development platforms can expect comprehensive protection from third-party claims, as this actually depends on specific facts and circumstances. I predict that most of the content will eventually become the subject of legislation.”

Author: LianGuaiBitpushNews Mary Liu

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