FMA publishes cryptocurrency guidance

  • Legal update

    27 October 2017

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The FMA has published guidance on the regulatory treatment of initial coin offerings (ICOs) and cryptocurrency services. The FMA’s broad position is that ICOs can be regulated offers of financial products, depending on their characteristics, and may be subject to New Zealand securities law. Similarly, for some cryptocurrencies, exchanges and wallet services may be “financial services” for New Zealand law and regulated. FMA has also published guidance for investors on investing in cryptocurrencies and ICOs

Who needs to read it? Why?

All market participants involved with or interested in cryptocurrencies and ICOs in New Zealand. The regulatory treatment of cryptocurrencies and ICOs in New Zealand raises unique challenges. The FMA’s guidance shows their intended regulatory approach and provides more clarity for those working in this area.

What does it cover?

The FMA breaks down the regulation of cryptocurrencies (referred to generally as “tokens”) and ICOs into the following categories.

Tokens can be financial products (but not all are):
  • The FMA has clarified that all cryptocurrencies and tokens are “securities” (which can be designated as financial products), and some will already be either debt securities, equity securities, managed investment products, or derivatives depending on their characteristics. The FMA also gives examples of certain regulatory treatments, such as if a token is pegged to the value of a dollar or commodity it may be a debt security if it gives the investor the right to redeem that token for money. In addition, if a token grants an option to buy equity shares, offering the token is both an offer of the token and the equity shares. The FMA’s analysis does however recognise that there are cryptocurrencies and tokens which are not financial products – unless the FMA were to move to designate them as securities, which it cannot do retrospectively.

Our view: We have written in depth on classifying cryptocurrencies and tokens as financial products. The FMA’s view broadly aligns with our own, that all tokens are securities and some may be financial products depending on their individual characteristics. See our article “Tokens of our affection” for further analysis.

Offer of tokens can be subject to securities laws:
  • For tokens which are financial products, offering them to the public (for example in an ICO) can be an offer of financial products. All the compliance obligations of a regulated offer such as preparing a PDS and a register entry, appointing a supervisor (in some cases), registering on the financial service providers register, and complying with New Zealand anti-money laundering legislation may apply.

Our view: In practice, ICOs involving tokens that are financial products could most easily be offered in New Zealand under a non-regulated offer made only to wholesale investors. This is similar to the new approaches been developed in other jurisdictions such as the United States, e.g. the use of “simple agreements for future tokens” (SAFTs) which are investment contracts only available to accredited investors.

In relation to offers to retail investors, we agree with FMA that some form of prescribed disclosure is desirable so that less sophisticated investors understand their rights and the risks involved.  The FMA has the ability to facilitate that using its designation and exemption powers in tandem.

Token exchanges may be regulated:
  • Exchanges which issue their own cryptocurrency to facilitate trading will be providing the financial service of “issuing and managing means of payment”. Exchanges that allow the trading of tokens which are financial products may also be operating a “financial product market” and require a licence from the FMA.

Our view: We have looked at a number of different business models for providing services or infrastructure to deal with coins and tokens, including exchange models, not all of which are addressed by the FMA’s guidance. Some of the relevant definitions in the legislation are simply not easy to be apply to coins and tokens.  We recommend obtaining specific advice for each business model.

Wallets may be regulated:
  • Wallet providers who store crypto currencies and facilitate transfers between other cryptocurrencies or other exchanges will be providing the financial service of “operating a value transfer service”. In addition holding money for depositors may be offering debt securities, although this is less certain if they are held on trust.

Our view: Similar to exchanges, we have seen a number of different business models, not all of which are addressed by the FMA’s guidance, and we recommend obtaining specific advice.

Cryptocurrency transaction arrangers may be brokers:
  • In addition to the above, persons who receive tokens which are financial products and hold, pay, or transfer those tokens to other persons may be providing a “broking service” and have obligations under the Financial Advisers Act 2008.

Our view: In this context, it is pivotal to understand whether the particular tokens are financial products as the broking rules only apply in respect of financial products.

Tokens may come with anti-money laundering obligations:
  • In the above examples where a person is providing a financial service, it is likely that anti-money laundering obligations will also apply.

Our view: Again the relevant definitions can be difficult to apply to some business models, particularly when read with the guidance from the Financial Action Task Force (FATF) in relation to AML issues around cryptocurrencies.

Our view

The FMA’s commentary is a helpful first step in determining the regulation of cryptocurrencies, tokens and ICOs in New Zealand. Much of the specific detail still lies in whether any specific token is a “financial product” or not, which will still require detailed consideration. The FMA has emphasised that they will work together with cryptocurrency businesses to settle on a regulatory treatment and we look forward to engaging with the FMA on cryptocurrency regulation in future.

We have been involved in advising in relation to ICOs as well as proposed exchanges and other services. The guidance fits with our discussions with the FMA to date and our own views on how the law (as it stands) should operate. This area is fast moving however, and there are many developments to come.

We consider the FMA could proactively facilitate appropriate disclosure using its designation and exemption powers on appropriate conditions.

What next

If you have any questions regarding the FMA’s cryptocurrency commentary or are considering operating a cryptocurrency business in New Zealand, please contact one of our experts.