Answer ... ‘Virtual currencies’ are generally defined as being a digital representation of value that is neither issued by a central bank or public authority nor necessarily attached to a fiat currency, but is used by natural or legal persons as a means of exchange and can be transferred, stored or traded electronically.
Cryptocurrencies/assets are specific variants of virtual currencies which implement cryptography technology to secure and authenticate currency transactions, and depend on blockchain networks. They are the focal point of the Financial Conduct Authority’s (FCA) recent Guidance on Cryptoassets, which explains the extent to which the FCA regulates cryptoassets.
The FCA recognises the following two broad categories of cryptoassets.
Regulated tokens: These are regulated by the FCA and generally comprise ‘security tokens’ and ‘e-money tokens’.
Security tokens include specific characteristics that bring them within the definition of a ‘specified investment’ under the FCA’s regulatory framework, such as a share or debt instrument. They include tokens that grant holders some or all of the rights conferred on shareholders or debt holders, as well as those tokens that give rights to other tokens that are themselves specified investments. The FCA considers a ‘security’ to refer broadly to an instrument that indicates an ownership position in an entity, a creditor relationship with an entity, or other rights to ownership or profit. Security tokens are securities because they grant certain rights associated with traditional securities.
Anyone that carries on a regulated activity involving security tokens by way of business will need to make sure that they are appropriately authorised or exempt. Issuers of such tokens may themselves not need to be authorised; however, certain requirements relating to the issuance of the tokens may still apply – for example, prospectus and transparency requirements. Market participants should also be aware of the FCA’s financial promotions regime; it is an offence to communicate an invitation or inducement to engage in investment activity unless that person is an authorised person or the content is approved by an authorised person.
E-money tokens are tokens that meet the definition of ‘electronic money’ in the E-Money Regulations 2011 (EMRs). These tokens are subject to the EMRs and firms must ensure that they have the correct permissions and follow the relevant rules and regulations. ‘E-money’ is defined in the EMRs as:
- electronically stored monetary value that represents a claim on the issuer;
- issued on receipt of funds for the purpose of making payment transactions;
- accepted by a person other than the issuer; and
- not excluded from the definition of ‘e-money’ in the EMRs.
E-money must enable users to make payment transactions with third parties, so must be accepted by more parties than just the issuer. Due to the fact that they are not usually centrally issued on the receipt of funds, and do not represent a claim against an issuer, exchange tokens such as Bitcoin and Ether are unlikely to represent e-money.
Unregulated tokens are tokens that do not provide rights or obligations akin to specified investments such as shares, debt securities and e-money. These tokens include exchange tokens (eg, Bitcoin) and utility tokens (eg, certain online gaming tokens) which can be centrally issued, decentralised, primarily used as a means of exchange, or grant access to a current or prospective product or service. They may be used in one or many networks or ecosystems, and can be fully transferable or have restricted transferability. The key point is that any token that is not a security token or an e-money token is likely to be an unregulated token.
For the purpose of the UK Money Laundering Regulations, a ‘cryptoasset’ is defined as “a cryptographically secured digital representation of value or contractual rights that uses a form of distributed ledger technology and can be transferred, stored or traded electronically”.
On 18 November 2019, the government’s UK Jurisdiction Taskforce published its Legal Statement on Cryptoassets and Smart Contracts, which provided clarity on a number of legal issues that can arise as a result of the increasing use of cryptoassets. One of the key questions surrounding cryptoassets is whether English law treats these as property. The statement confirmed that cryptoassets are capable of being property, and that the factors relevant in determining whether English law governs the proprietary aspects of dealings in cryptoassets include:
- whether any relevant off-chain asset is located in England and Wales;
- whether there is any centralised control in England and Wales;
- whether a particular cryptoasset is controlled by particular participants in England and Wales; and
- the law applicable to the relevant transfer (eg, by way of parties’ choice in contractual provisions) is English law.
The statement also confirmed that cryptoassets can be characterised as property for the purposes of the Insolvency Act 1986.