Crypto View - January 2023

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It’s 2023 and Crypto View is back! We hope you had a good New Year. Following on from an eventful end to 2022 (need we mention FTX again?), we are looking at developments across Europe and showcase the latest from the FCA – including a consultation on financial promotions and the current landscape for crypto registration in the UK. As for MiCA, unfortunately we are looking at further delays due to ‘technical’ reasons – in the meantime, you can listen back to our series of webinars on this – listen back here.

Crypto registration

Two years after first requiring cryptoasset businesses to be registered under the Money Laundering, Terrorist Financing and Transfer of Funds (Information on the Payer) Regulations 2017 (MLRs), the Financial Conduct Authority (FCA) has published their feedback on ‘good’ and ‘poor’ quality registration applications. Better late than never.

The FCA’s feedback is intended to help cryptoasset businesses with their applications for registration – of which a tiny 15% have been approved as of January 2023 (41 out of 300 applicants). Its feedback is broken up into key stages of the process – setting out what businesses need to do before preparing an application, when preparing an application, when submitting an application and while the FCA is assessing an application. We strongly recommend that crypto businesses looking to register with the FCA review the FCA’s feedback (together with the MLRs and relevant guidance on the FCA website). We also heard back from an FoI request this month, confirming that of those successful applicants 39 have had “voluntary” restrictions imposed on them. Some of these are quite interesting, while others appear prohibitively restrictive. They range from restrictions on the business that firms can carry out (most have restrictions preventing them from operating Crypto ATM machines), while others go further, preventing firms from participating in ICOs, facilitating or participating in decentralised finance activities, and providing any services in relation to privacy coins.

The strangest of these is perhaps one firm which is prohibited from:

• operating a machine which utilises automated processes to exchange Cryptoassets for Money or Money for Cryptoassets; or
• providing services to safeguard, or to safeguard and administer (a) cryptoassets on behalf of its customers; or (b) private cryptographic keys on behalf of its customers in order to hold, store and transfer cryptoassets; or
• providing any other services to exchange Cryptoassets for Money or Money for Cryptoassets, or exchange one Cryptoasset for another.

Which rather begs the question: what are they permitted to do? Presumably this firm must be carrying on some sort of arranging in relation to the exchange of cryptoassets, but these restrictions seem to be very onerous.

There were also restrictions on who certain firms could onboard as customers, with one firm oddly not permitted to provide services to corporate customers, while another could not engage with retail clients (defined as having an annual income of less than £100,000, and/or having net assets less than £250,000). Perhaps most restrictively, one firm was only allowed to provide services to firms registered with the FCA to provide cryptoasset activity – limiting their customer pool to 40 (though one would imagine some of those firms are its competitors).

This goes to show the broad powers that the FCA has when approving firms, and the sorts of restrictions they may impose - the headline figures do not show the whole picture. If you would like to discuss anything about registrations or restrictions, please do get in touch with Doug Robinson.

Licensing for DASPs in France will not be mandatory (well, almost)

On Tuesday 24 January 2023, an amendment imposing stricter conditions on digital asset service providers (DASPs) in France was passed by the French National Assembly. As of 01 January 2024, DASPs seeking to become registered in France will be subject to additional requirements, including those to:

• provide fair, clear information to customers which is not misleading (honestly, not so new);
• publish and regularly update pricing policies (typical market practice);
• have in place procedures for managing conflicts of interest and customer complaints and have a security and internal control policy (we note that the French AMF could be quite demanding on this one);
• establish a custody policy (likely a consequence of FTX…);
• segregate holdings on behalf of their clients from their own holdings (ditto the above); and
• refrain from using digital assets or cryptographic keys held on behalf of customers, except with the express prior consent of said customers (ditto again).

In December of last year, the French Senate adopted an amendment requiring crypto businesses seeking to operate in France to obtain a licence as a DASP. Crypto businesses might consider the absence of this licence requirement in the final adopted text a bonus. However, it’s much of a muchness as the revised text seems to simply shift some of the previously tabled licensing requirement over to the registration process.

As this text has been adopted under the accelerated legislative procedure, if a “commission mixte paritaire” is not appointed soon, this will be the final version. For more information on this, and any other queries you may have on the French crypto market, please do get in touch with Emilien Bernard-Alzias.

Crypto assets qualified as financial products in Italy

Moving now to Italy, where the Supreme Court (decision no. 44378 of 22 November 2022 – Italian only) has recently decided that, in certain circumstances, cryptoassets will qualify as “financial products” for the purposes of applicable Italian financial services regulation. The decision was made in the context of a request by the public prosecutor to seize Bitcoin used in an Initial Coin Offering (ICO) that launched in 2017 to finance the creation of a decentralized platform of peer-to-peer logistics services. The bidder in this case was accused of having collected sums in violation of the rules on financial intermediation, pursuant to Italian Legislative Decree No. 58/1998 (the Italian Financial Act).

The ruling is in line with another recent decision made by a local Court (Court of Verona, decision no. 195/2017) which took a similar stance in relation to the notion of a cryptoassets, considering them a form of "financial instrument". The Court also confirmed that in the present case, all distinctive features of a regulated financial investment were present, since those who had invested in the cryptoassets: (i) had disbursed capital (in the form of Bitcoin), (ii) the expectation of obtaining a return (consisting of the payment of other virtual currencies), and (iii) had assumed a risk related to the capital invested. It follows, in the opinion of the Court, that "virtual currency must be considered an investment instrument because it consists of a financial product, so it must be governed by the rules on financial intermediation".

The equivalence of cryptoassets to financial products had been considered by the Court on two previous occasions, (sentence no. 26807/2020 and no. 44337/2021 – both Italian only). However, with this latest ruling, the Court, while confusing the notion of "financial instrument" and "financial product" (by attributing characteristics of a “financial product” to a “financial instrument”), appeared to affirm this equivalence of principle between cryptoassets and financial products, regardless of the advertising methods adopted by the offeror. The Court also appeared to place particular importance on the subjective element of the investor's expectations of a return, rather than on the objective element of the (financial or otherwise) purpose of the operation.

Cryptoasset service providers will have to carefully analyse the type of activity being carried out in Italy, as the mere offer of cryptoassets could be interpreted by local courts as performance of investment services. In our view, it is unlikely that the November 2022 Supreme Court decision will be a leading case, as there are legal and factual elements that could be said to have been interpreted too expansively by the Court, both from a regulatory and civil law perspective (also not forgetting that MiCA is still underway). If you would like to discuss this further, or have any questions, please contact Mirella Di Carlo.

FCA consults on a financial promotions “gateway”

The FCA published a consultation on introducing a gateway for firms who approve financial promotions, which will be of interest to firms operating in the cryptoasset market. In July 2020, the Treasury consulted on a ‘Regulatory Framework for the Approval of Financial Promotions', and later confirmed a plan to introduce a new regulatory gateway for all authorised persons (under the Financial Services and Markets Act 2000 (FSMA)) wishing to approve financial promotions on behalf of unauthorised persons.

The Treasury has signalled its plan to create a transition period for existing authorised persons, enabling them to continue approving financial promotions until their applications have been determined.

The FCA are consulting on a number of proposals for the new gateway, including:

• how applicants are assessed at the gateway;
• the basis for the FCA granting or refusing applications;
• a bi-annual reporting requirement for firms that are given permission to approve financial promotions; and
• further consequential changes made to the FCA’s non-Handbook guidance for firms that approve financial promotions for investments, and additional text on the Consumer Duty.

The proposed reforms will require authorised firms to undergo new screening checks before being allowed to approve financial promotions, and to regularly report back to the FCA on financial promotions already approved. The consultation also highlights again the issues raised in responses to CP22/2, suggesting that when cryptoassets are brought within the financial promotion regime, they will be subject to this regime. Despite the initial proposal to bring cryptoassets within scope of the Financial Promotion Order (FPO) coming in June 2021, we are still not there. This latest consultation from the FCA notes that “As many cryptoasset firms are not authorised with Part 4A permissions under FSMA, it is likely that many crypto firms will require their promotions to be approved by a s21 approver”. This is a huge understatement: virtually no registered cryptoasset firms are authorised.

The FCA goes on to say that “it is likely that the number of firms that apply at the gateway with sufficient competence and expertise to approve cryptoasset financial promotions will be limited at first”. Again, this is a huge understatement. As we have said on previous occasions: cryptoasset activities are not regulated under FSMA, and no Part4A permission is possible for cryptoasset activity. As such, it is not clear who would have the relevant experience to approve these financial promotions, and from what will likely be a vanishingly small pool we would have to ask which of these firms would be approving their competitor’s promotions. There is a massive gap here, and we hope that the FCA and Treasury are aware of it and will remedy this before we see legislation.

The FCA are seeking responses to the consultation by 07 February 2023.

This month in MiCA

This month MiCA is lost in translation – although the final text has been agreed upon in principle, the plenary vote by the European Parliament has been delayed due to ‘technical’ reasons, caused by issues translating the text into the 24 official languages in the EU (we can only think that some of the concepts are alien to some of the languages…). We’ll see if any changes have been made when the final text does come out, and hopefully there won’t be much more of a delay. This does mean that as the date which MiCA enters into force has been pushed back, its date of application (18 months after this) will also move back, giving firms longer to ensure that they have their MiCA strategies in place. If you would like to discuss anything MiCA related, please do get in touch.