Modernizing Compliance: Lagrange and the SEC

On Friday, September 12th, Lagrange Labs met with the SEC Crypto Task Force to discuss the future of regulatory oversight for digital assets. The full meeting notes are available here.

During this meeting, Lagrange Labs proposed the creation of a financial surveillance sandbox that would allow the SEC to evaluate DeepProve, Lagrange’s zero-knowledge proof system designed to produce verifiable, privacy-preserving evidence of compliance. This initiative represents an important step toward balancing enforcement and accountability with the highest possible preservation of investor privacy.

Reimagining Oversight in the Digital Asset Era

Compliance in digital asset markets is often forced through legacy frameworks that depend on broad-scale data collection. These methods are poorly suited to blockchain environments, where transparency is inherent but sensitive personal and financial information must still be protected. Traditional approaches not only expose investors and firms to unnecessary privacy risks, but also create legal liabilities and heavy operational burdens.

A regulatory sandbox would provide the SEC with a controlled environment to test modern cryptographic solutions like zero-knowledge proofs. This approach would allow regulators to evaluate whether proofs can replace raw data collection, while ensuring oversight remains rigorous and legally defensible.

The sandbox is designed to meet several core objectives:

• Protect investor privacy by replacing unnecessary data exposure with proofs.
• Ensure accountability by providing tamper-evident, time-stamped compliance evidence.
• Strengthen legal defensibility through reproducible, court-ready proofs.
• Clarify regulatory gray areas by defining when proofs are sufficient and when full disclosures remain necessary.
• Deliver policy-ready insights that can inform future SEC guidance and rulemaking.

Use Case 1: Investor Privacy

Investor eligibility checks for digital securities often require disclosure of sensitive information, such as accreditation status or residency. Current processes typically involve off-chain attestations or raw data disclosures, and in some cases, information is leaked on-chain through whitelists or token classifications. These methods create significant privacy and security concerns.

DeepProve offers a solution by converting eligibility checks into cryptographic proofs. These proofs are verifiable, enforceable, and privacy-preserving, and can be applied both proactively and retroactively.

The potential benefits are significant:

• For investors, personal data exposure is minimized, and the burden of reproducing documents during inspections is eliminated.
• For issuers, the process becomes more efficient, administrative obligations are reduced, and liability risks decline.
• For the SEC, oversight becomes more efficient, inspections are streamlined, and public trust is reinforced through stronger privacy protections.

Use Case 2: Broker-Dealer Auditing

Broker-dealers are responsible for meeting compliance obligations across custody, best execution, liquidity, and disclosures. At present, regulatory oversight in these areas depends on extensive data collection and document sharing, which not only creates privacy risks but also leads to disputes over accuracy and imposes significant operational burdens.

DeepProve addresses this by pairing each regulatory requirement with a corresponding cryptographic proof. These proofs serve as first-line evidence of compliance without exposing the underlying data, while full records remain available if needed.

The benefits are clear:

• For broker-dealers, operational burdens are reduced, confidentiality is maintained, and audits become less adversarial.
• For markets, the result is greater integrity and fewer disputes.
• For the SEC, examinations become more streamlined, enforcement actions are strengthened, and administrative burdens are reduced.

Use-Case 3: Enhanced AI-Powered Regulatory Enforcement

The SEC already uses AI systems to detect suspicious trading behaviors such as insider trading, wash trades, and pump-and-dump schemes. However, AI-generated alerts are often challenged in court due to questions about interpretability and reliability.

DeepProve can strengthen these systems by pairing AI alerts with cryptographic proofs derived from on-chain activity. These proofs provide verifiable, reproducible, and privacy-preserving evidence that can confirm or disprove violations.

This use case offers major advantages:

• For the SEC, enforcement becomes faster and more robust, with reduced investigative burdens.
• For courts, evidence is tamper-proof and more likely to be admissible.
• For investors, privacy is preserved while manipulation is deterred.

Timeline: From Pilot to Real-World Use

The sandbox would be deployed in six phases, beginning with scoping and joint planning, and culminating in long-term collaboration:

1. Months 1–2: Define objectives, evaluation metrics, and establish a joint working group.
2. Months 3–5: Integrate DeepProve into participant workflows in a test environment.
3. Months 6–11: Pilot onboarding and execution, generating proofs for real scenarios.
4. Months 12–14: Audit proofs for accuracy and conduct mock legal reviews.
   Months 15–18: Publish technical findings, operational results, and policy recommendations.
5. 18+ months: Maintain the sandbox for ongoing collaboration, expanded use cases, and eventual real-world application.

Measuring Impact

The sandbox will be evaluated using four key success measures:

• Privacy Preservation: The ability to reduce raw data exposure while still meeting oversight requirements.
• Proof Performance: Proof generation and verification must be efficient and reliable at market scale.
• Legal Defensibility: Proofs must be admissible in court, reproducible, and tamper-evident.
• Operational Impact: Proof-based compliance should streamline reviews and reduce reliance on manual data collection, with SEC staff providing direct feedback on usability and integration.

A New Vision for Compliance

Lagrange’s proposed sandbox for the SEC reflects a forward-looking vision for digital asset oversight. By enabling the SEC to evaluate DeepProve in a structured, collaborative setting, Lagrange Labs is offering a pathway to compliance that is verifiable, privacy-preserving, and legally defensible.

If successful, the sandbox will not only reduce administrative burdens but also establish a foundation for policy-ready insights that shape the next generation of regulatory infrastructure. In doing so, it balances investor protection, enforcement efficiency, and privacy — three pillars essential to the healthy growth of digital markets.