Germany: Initial Coin Offerings (ICOs): New Swiss And German ICO Guidelines Released; Analysis Vis-A-Vis Indian Law

  • Swiss FINMA and German BaFin have both issued Initial Coin Offering (ICO) statements
  • The statements do not act as new law but rather a guide to interpretation
  • FINMA classifies tokens as payment tokens, utility tokens, and asset tokens
  • BaFin says tokens may be securities, asset investments, units in investment funds, underlyings of derivatives contracts, or units of account

Background

As Initial Coin Offerings (ICOs) begin to gain mainstream acceptance as a mode of fundraising, the German and Swiss financial regulators have recently issued statements detailing their outlook on ICOs. The German Federal Financial Supervisory Authority (BaFin) on February 20, 2018, published a note on the regulatory treatment of ICOs from a securities law perspective.1 The Swiss Financial Market Supervisory Authority FINMA has issued guidelines which detail its position on ICOs. The "Guidelines for enquiries regarding the regulatory framework for initial coin offerings (ICOs)"2 ("Guidelines") were published by FINMA on February 16, 2018, and act as a follow-up to a briefer guidance that was issued by FINMA in September 2017.3 This Hotline primarily focuses on the Guidelines by FINMA since the note by BaFin is not yet available in English and we have relied on a secondary source for our information.4

The Guidelines are important since Switzerland – particularly, Zug, known as "crypto valley" – has become a popular destination for cryptocurrency businesses and ICOs. Notable players in the industry like Ethereum, ShapeShift and Xapo are based out of Switzerland.

The Guidelines follow similar advisories issued by regulators in Canada,5 Estonia,6 E.U.,7 Hong Kong,8 Singapore,9 U.K.,10 and U.S.,11 among others, over the past year.

We have analyzed the Guidelines below, with comparative notes on the Indian regime where relevant.

What is an ICO?

For the uninitiated, an ICO is a cryptocurrency-driven mode of fundraising. The entity wishing to raise capital – the issuer – makes its own cryptocurrency available for purchase by the public, in exchange for commonly traded cryptocurrency (like Bitcoin or Ether) or fiat currency. The ICO tokens exist either on a proprietary blockchain or through a smart contract on a pre-existing blockchain. Usually, issuers release a white paper describing their project, the characteristics of the token, and the profile of their team. Some issuers also do a pre-sale where high-value investors get a beneficial price.

Under Swiss law, currently there is no ICO-specific regulatory framework; depending on the nature of an ICO, compliance with existing regulatory requirements may be attracted. To deal with enquiries from proposed issuers in terms of applicability of financial market regulation, FINMA has issued the two guidance notes so far.

While the September 2017 guidance was high-level and noted that ICOs need to comply with the requirements set out in the relevant financial market laws, the recent Guidelines provide a much more detailed perspective on how FINMA is likely to consider the different types of ICO activity under Swiss regulations. In an Appendix, the Guidelines also specify the minimum information requirements for ICO enquiries to be submitted to FINMA. FINMA will assess the proposed ICO on a case-by-case basis in light of the Guidelines.

India

In India, there are no specific regulations surrounding ICOs yet. Entities wishing to carry out ICOs hence need to be mindful of a variety of generally applicable laws, including those on the acceptance of deposits, setting up of Collective Investment Schemes, and issuance of securities.

We understand that the Securities and Exchange Board of India (SEBI) is in the process of considering a regime to govern ICOs.

Also, the Cabinet recently approved the introduction of the Banning of Unregulated Deposit Schemes Bill, 2018, in Parliament (further discussed below).12

BaFin statement

The BaFin statement too does not create a regulatory regime specific to ICOs, but reiterates that they would be subject to financial regulations depending on their characteristics. BaFin states that tokens may in particular be securities, asset investments, units in investment funds, underlyings of derivatives contracts, or units of account.

Classification of Tokens

The Guidelines set out a tripartite classification of tokens based on the underlying economic function and purpose of the token. The classifications are as follows:

  1. Payment tokens: These tokens are intended to be used as a means of payment for trading goods or services, as a form of money/value. They do not give rise to claims against their issuer.
  2. Utility tokens: Utility tokens are intended to be used as form of access to the underlying technology application or service of the company issuing them. They are thus a type of access code to the company's services and do not have any intrinsic financial value.
  3. Asset tokens: These tokens are a form of debt or equity claim against the issuer. They closely resemble securities issued in a traditional initial public offering (IPO). They are thus analogous to traditional equities, bonds, or derivatives, as they promise certain future returns. Tokens enabling the trade of physical assets on the blockchain also classify as asset tokens.

It must be noted that these classifications are not mutually exclusive, i.e., a given token may be any one or even all three types of the aforementioned classes of tokens. These tokens are referred to as hybrid tokens. The regulations governing these tokens are cumulative, viz. they may be regulated as both a type of security as well as a means of payment.

Another type of token issue may be issued where investors or subscribers receive tokens which entitle them to acquire a different token at a later date. This type of ICO is called a pre-sale or pre-financing.

The classification into these distinct token types, with legal implications flowing accordingly, differs from the approach followed by most regulatory advisories worldwide, which have generally only analyzed whether a token would be a 'security' or not. From the perspective of regulatory clarity, this is a welcome approach; however, if tokens are structured such that they do not clearly fit into these categories, that will present ambiguity.

Implications under Securities Laws

FINMA has examined the applicability of Swiss securities regulations to these various types of tokens.

  1. Payment tokens: Since these are primarily used as a means of payment and are not analogous to traditional securities, FINMA will not treat them as securities.

    From an Indian law perspective, if the blockchain relating to the ICO token forms a "payment system" requiring authorization under the Payment and Settlement Systems Act, 2007, the entity that commences or operates such a system may be required to be authorized by the Reserve Bank of India (RBI).

  2. Utility tokens: FINMA will not regulate utility tokens as securities if they only confer digital access rights to an application or service and if the utility token can actually be used in this way at the point of issue. However, the Guidelines state that if a utility token has an investment purpose at the point of issue, FINMA will treat such tokens as securities.

    Under Indian law, such tokens can be seen as acknowledgements issued in return for advance paid for services to be rendered in the future. As noted below, if the amounts accepted for these tokens are appropriated against the supply of goods or services within a period of three hundred and sixty five days, legal and regulatory compliance in relation to the acceptance of 'deposits' should not be attracted.

  3. Asset tokens: These are treated as securities by FINMA. The Guidelines also clarify that if an asset tokens represents a derivative, it will be treated as a security.

    And,

  4. Pre-sale tokens: If these tokens confer claims to acquire tokens in the future, these claims – like asset tokens - will also be treated as securities.

    If ICO tokens are classified as securities, corresponding securities obligations under Swiss law will become applicable, though not all issuances or sales of securities are specifically regulated.

    Under Indian law, if the 'security' test under the Securities Contracts (Regulation) Act, 1956 ("SCRA"), is met, implications under the SCRA (e.g., securities can only be listed on recognized stock exchanges), and possibly the Companies Act, 2013 and Securities and Exchange Board of India (Issue of Capital and Disclosure Requirements) Regulations, 2009 (e.g., as regards the issuance of securities), arise.

    BaFin has stated that depending on the classification of the token as securities, asset investments, units in investment funds, underlyings of derivatives contracts, or units of account, an ICO would be potentially subject to prospectus requirements (such as under the Securities Prospectus Act), licensing requirements (such as under the Banking Act and Payment Services Supervisory Act), and trading regulations (such as the Securities Trading Act ).

    Broadly, all three regimes discussed above follow the principles that there is no ICO-specific legal regime, and that once a token is classified as a particular type of legal instrument, the regulatory implications would follow in ordinary course.

Anti-Money-Laundering (AML) Requirements

According to the Guidelines, the issuing of payment tokens would constitute the issuing of a means of payment which would be subject to Swiss AML regulation if the tokens can be transferred on the blockchain infrastructure.

For utility tokens, the Guidelines clarify that AML regulation is not applicable if the main reason for issuing the tokens is to "provide access rights to a non-financial application of blockchain technology".

In India, AML regulations are applicable only to certain regulated entities (e.g., banks, NBFCs and various intermediaries regulated by SEBI). However, if an ICO token were to constitute a "payment system" or other regulated activity, the issuer would need payment system authorization from the RBI under the Payment and Settlement Systems Act, 2007, and would become a regulated entity. It would hence need to follow KYC / AML norms. Separately, it is likely, based on government press comments, that many cryptocurrency businesses may come under the scope of a new regulation and have to follow KYC / AML norms.

Deposits Regulations

The Guidelines explore whether the acceptance of value in exchange for the ICO token issuance would constitute a 'deposit' subject to banking regulation, and hence need the procurement of a banking license. However, since tokens are not generally associated with claims for repayment on the ICO issuer, FINMA takes the view that such tokens do not fall within the definition of a deposit. However, tokens which have a debt capital character e.g., act as promises to return capital with a guaranteed return, the funds raised through the ICO would be seen as deposits, and a banking license may need to be obtained.

In India, as mentioned above, the Banning of Unregulated Deposit Schemes Bill, 2018, is due to be introduced in Parliament. While the text of this Bill does not appear to be publicly available yet, the accompanying press release indicates that the term "deposit" is defined such that "deposit takers are restricted from camouflaging public deposits as receipts, and at the same time [the definition does not] curb or hinder acceptance of money by an establishment in the ordinary course of its business." According to a 2016 draft of the Bill, 'deposit' means the "receipt of money, by way of advance or loan or in any other form, to be returned, ... with or without any benefit in the form of interest, bonus, profit or in any other form." The draft Bill provides a schedule of Regulated Deposit Schemes, and all Unregulated Deposit Schemes are prohibited. Hence it would appear that if the Bill is passed in its draft form, ICO issuers would need to ensure that any money received should not be liable to be returned in order to be outside the purview of this Bill.

Further, the regulations under the Companies Act, 2013, and the Companies (Acceptance of Deposits) Rules, 2014, specify when the receipt of money by way of deposit or loan or in any other form, by a company would be termed a 'deposit' and also provides certain exemptions from its applicability. For example, any amount received in the course of business as an advance for the supply of goods or services would not be a 'deposit' if such advance is appropriated against supply of such goods or services within a period of three hundred and sixty five days. If a company is deemed to be accepting 'deposits', a variety of compliances under the Companies Act and its rules, along with RBI regulations, would be triggered.

Collective Investment Schemes Regulations

The Guidelines clarify that these regulations would be relevant if the funds accepted in the context of an ICO are managed by third parties.

In India, Collective Investment Schemes (CIS) can only be operated by entities registered with SEBI for this purpose. Among other criteria, a CIS is likely to be formed if contributions or payments by investors are pooled and utilized for the purposes of the scheme; the contributions or payments are made with a view to receive profits, income, or property; the scheme corpus is managed on behalf of the investors; and the investors do not have day-to-day control over the management and operation of the scheme.

Takeaways

As leading global economies (and in Switzerland's case, a leading jurisdiction for cryptocurrency businesses and ICOs), Germany's and Switzerland's moves to have a balanced outlook on ICOs can be seen as a positive. The statements achieve the purposes of bringing about clarity in the regulators' interpretation, protecting investors, and not unnecessarily impeding innovative activity. The statements have also stuck to a technology-neutral approach and not an overtly narrow one. In the case of the Guidelines, they would also serve as precedent to many offshore financial centers competing to attract fintech businesses.

In terms of India where we have seen increased interest in the cryptocurrency industry and ICO activity, the Guidelines may also attract Indian entrepreneurs to headquarter ICO-driven projects in Switzerland, which is already attractive due to a favourable tax, regulatory, and blockchain industry climate. However, if this route is pursued, Indian laws on exchange control and securities will have to be closely analyzed.

At the same time, the statements set a good precedent that the Indian financial sector regulators can look to for guidance. ICOs present an innovative means of fundraising and their embrace by Indian regulators can help the government's goals of promoting innovation and start-ups. A negative outlook by regulators or a continuing lack of clarity may result in Indian entrepreneurs choosing foreign jurisdictions for ICOs and related fintech innovations. In this connection, it is worth noting that the (Indian) Ministry of Finance has just constituted a Steering Committee to promote fintech innovation in the country.1#c13" >13 It remains to be seen if the Ministry of Finance or a sectoral regulator like SEBI will issue any statement on their outlook on ICOs.

Footnotes

1 https://www.bafin.de/SharedDocs/Downloads/DE/Merkblatt/WA/dl_hinweisschreiben_einordnung_ICOs.pdf?__blob=publicationFile&v=2, last accessed March 8, 2018.

2 https://www.finma.ch/en/~/media/finma/dokumente/dokumentencenter/myfinma/1bewilligung/fintech/wegleitung-ico.pdf?la=en, last accessed February 20, 2018.

3 https://www.finma.ch/en/~/media/finma/dokumente/dokumentencenter/myfinma/4dokumentation/finma-aufsichtsmitteilungen/20170929-finma-aufsichtsmitteilung-04-2017.pdf?la=en&hash=9DCC5C1FF8F61C9AA9412FAD2D7C70533F341EF2, last accessed February 20, 2018.

4 https://www.lw.com/thoughtLeadership/bafin-publishes-statement-on-ico-and-token-regulation, last accessed March 8, 2018.

5 http://www.osc.gov.on.ca/en/SecuritiesLaw_csa_20170824_cryptocurrency-offerings.htm, last accessed February 20, 2018.

6 https://www.fi.ee/index.php?id=21662&year=2017, last accessed February 20, 2018.

7 https://www.esma.europa.eu/sites/default/files/library/esma50-157-828_ico_statement_firms.pdf, https://www.esma.europa.eu/sites/default/files/library/esma50-157-828_ico_statement_firms.pdf, last accessed February 20, 2018.

8 http://www.sfc.hk/web/EN/news-and-announcements/policy-statements-and-announcements/statement-on-initial-coin-offerings.html, last accessed February 20, 2018.

9 http://www.mas.gov.sg/.../A%20Guide%20to%20Digital%20Token%20Offerings%20%2014%20Nov%202017.pdf, last accessed February 20, 2018.

10 https://www.fca.org.uk/news/statements/initial-coin-offerings, last accessed February 20, 2018.

11 https://www.sec.gov/news/public-statement/statement-clayton-2017-12-11, last accessed February 20, 2018.

12 http://pib.nic.in/newsite/PrintRelease.aspx?relid=176666, last accessed March 8, 2018.

13 http://www.pib.nic.in/PressReleaseIframePage.aspx?PRID=1522473, last accessed March 8, 2018.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
Ruchi Biyani
 
Some comments from our readers…
“The articles are extremely timely and highly applicable”
“I often find critical information not available elsewhere”
“As in-house counsel, Mondaq’s service is of great value”

Related Topics
 
Related Articles
 
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions