Worldwide: CSA Announces Interim Conditions For The Trading Of Stablecoins (VRCAs)

On October 5, 2023, the Canadian Securities Administrators (CSA) published CSA Staff Notice 21-333 Crypto Asset Trading Platforms: Terms and Conditions for Trading Value-Referenced Crypto Assets with Clients (SN 21-333), starting the countdown on new restrictions to be imposed on crypto asset trading platforms (CTPs) that trade stablecoins (which the CSA calls "Value-Referenced Crypto Assets" or "VRCAs") with Canadian clients.

SN 21-333 updates the regime for VRCAs announced in February of this year in CSA Staff Notice 21-332 Crypto Asset Trading Platforms: Pre-Registration Undertakings: Changes to Enhance Canadian Investor Protection (SN 21-332) and discussed in our previous blog post. SN 21-332 regulated VRCAs by imposing requirements on CTPs registered as dealers or which have given pre-registration undertakings to the CSA (Regulated CTPs). SN 21-333 goes beyond SN 21-332 by imposing requirements directly on stablecoin issuers in order for their VRCAs to trade on Regulated CTPs after April 30, 2024.

Stablecoins that comply with the SN 21-333 requirements will be designated as "Specified Crypto Assets" when traded on Regulated CTPs, and, accordingly will not be subject to the $30,000 annual limit imposed in some CSA jurisdictions for retail investments in individual crypto assets other than the current Specified Crypto Assets: bitcoin (BTC), Ether (ETH), Litecoin (LTC) and Bitcoin Cash (BCH).

Implementation Timeline

SN 21-333 prescribes the following timeline for implementation:

• As soon as possible: Regulated CTPs must contact their principal regulator to discuss the process for implementing terms and conditions prescribed in SN 21-333 (VRCA T&Cs).
• December 1, 2023: Issuers of fiat-backed stablecoins are expected to provide an Undertaking to the CSA described below under "VRCA Issuer Undertaking".
• December 28, 2023:
  • (i) Regulated CTPs must stop offering VRCAs except those that:
    • reference C$ or US$ on a one-for-one basis, and
    • are backed by a segregated reserve of cash and cash equivalents;

  (which the CSA calls "Fiat-Backed Crypto Assets", or "FBCAs");

  • (ii) For each FBCA that continues to be offered, CTPs must establish that reserve and redemption rights satisfy the VRCA T&Cs; and
  • (iii) CTPs must stop offering wrapped tokens¹, which the CSA considers to be VRCAs.
• April 30, 2024: Regulated CTPs must
  • (i) stop offering VRCAs unless the issuer has given a VRCA Issuer Undertaking;
  • (ii) stop offering VRCAs that do not publish audited annual financial statements and monthly assurance reports with respect to reserve levels;
  • (iii) update Crypto Asset Statements for VRCAs to include new, prescribed disclosures;
  • (iv) add disclaimers to marketing materials that use the term "stablecoin", that there is no guarantee of stable value when trading on secondary markets and no guarantee that reserves will be sufficient to meet redemptions (the Stablecoin Marketing Disclaimer); and
  • (v) update know-your-product (KYP) policies and procedures for ongoing monitoring of VRCAs and prompt trading halts and de-listings for non-compliant VRCAs.

VRCA Issuer Undertaking

The VRCA Issuer Undertaking (the Undertaking) is the most significant change in the CSA's approach from February 2023 to today. It appears that the CSA responded to feedback from Regulated CTPs that many requirements imposed on CTPs under SN 21-332 were outside of their control, and could only be addressed by VRCA issuers themselves. While seemingly a positive development, CSA requirements are more onerous than those imposed on stablecoin issuers under other regulatory regimes, such as the New York State Department of Financial Services (NYSDFS) which regulates USDC and PYUSD. Consequently, some VRCA issuers may refuse to comply, which would force Regulated CTPs to stop offering those VRCAs as of the April 30, 2024 deadline.

The Undertaking imposes the following obligations on VRCA issuers (each, an Issuer):

• Public disclosure of annual audited financial statements for each year ending after December 1, 2023 prepared in accordance with Canadian or U.S. GAAP and audited in accordance with Canadian GAAS, International Standards on Auditing or U.S. PCAOB GAAS, with an unmodified or unqualified audit opinion;
• Very broad examination rights for the CSA to review the business, conduct, financials affairs, books and records and other documents of the Issuer, its affiliates and control persons for the purpose of determining if the Issuer is in compliance with the Undertaking or Canadian law or acting contrary to the public interest;
• Submission to jurisdiction and appointment of agent for service with each member of the CSA;
• Reference C$ or US$ on a one-for-one basis;
• Provide redemption rights to accountholders to receive on demand, the reference currency less a publicly disclosed fee, with payment of redemption proceeds within a reasonable, disclosed period;
• Maintain a reserve of assets made up of cash, Canadian government bonds or U.S. treasuries maturing in 90 days or less, securities issued by regulated Money Market Funds in Canada or the U.S., or assets approved by the CSA;
• Reserve assets must be: measured at fair value daily in accordance with Canadian or U.S. GAAP, held with a Qualified Custodian, segregated from the issuer's own assets and other reserves to ensure that VRCA holders have sole recourse on insolvency of the issuer, and unencumbered;
• Confirmation at least once each day that the fair value of the reserve is at least equal to the aggregate nominal value of all outstanding units of the VRCA;
• Prohibition against having been the subject of a public order, judgment, fine or penalty of a government, regulator or court in Canada or a Specified Foreign Jurisdiction in the last five years in relation to a claim based on fraud, theft, deceit, facilitating criminal activity, violation of anti-money laundering (AML) laws, misrepresentation, illegal distributions or other violations of securities laws or similar offences or misconduct;
• Requirement to maintain policies and procedures for prudent management of the reserves (including concentration restrictions and liquidity risk management), recovery and orderly wind-up in case of crisis or failure, conflict of interest management and restrictions against minting tokens until after funds are received, and burning tokens until after redemptions are fulfilled;
• Publication of material terms of the VRCA, including issuance and redemption requirements, date of launch, key features and risks, all fees and revenues and holder rights on Issuer insolvency;
• Daily publication of all outstanding units and aggregate nominal value;
• Monthly publication of reserve attestations from a public accountant within 45 days of month end which satisfy prescribed criteria, including public accounting standards;
• Public disclosure of key individuals on the management teams for the Issuer and manager(s) of the reserve;
• Public disclosure of any suspensions of redemptions or failure to comply with redemption policies and procedures;
• Prompt published updates of material changes in publicly disclosed information;
• Prompt public disclosure of any event that is likely to have a significant effect on the value of the VRCA or its reserve; and
• Prompt notification of the Issuer's principal regulator if the Issuer becomes subject to bankruptcy or insolvency proceedings or if any representations in the Undertaking are no longer true.

VRCA T&Cs: December 28, 2023

Each Regulated CTP is required to adopt VRCA T&Cs in the form set out in Appendix A of SN 21-333. The following initial conditions will take effect on December 28, 2023. The language of each VRCA T&C is almost identical to the parallel condition in the VRCA Issuer Undertaking:

• The CTP may only offer Fiat-Backed Crypto Assets (FBCAs) which reference C$ or US$ on a one-for-one basis;
• The FBCA must provide redemption rights to accountholders to receive $1 of the reference currency on demand, subject to a disclosed fee;
• The FBCA must maintain a reserve of assets consistent with the description in the Undertaking;
• The FBCA's reserve assets must be measured at fair value daily, and held with a Qualified Custodian, segregated and unencumbered; and
• There must be daily confirmation that the fair value of the reserve is at least equal to the aggregate nominal value of all outstanding units of the FBCA.

Ban on DAI and Wrapped Tokens

These conditions will effectively ban Regulated CTPs from offering soft-pegged VRCAs such as DAI, as well as wrapped tokens like WBTC and WETH as of December 28, 2023. While SN 21-333 suggests that the CSA is willing to continue with policy discussions regarding an appropriate regime for offering such assets, the requirement to de-list in December 2023 seems to be firm. Potential future re-listing will depend on a to-be-determined framework. This approach contrasts with the CSA's other crypto asset regulatory initiatives, which have generally permitted CTPs to continue to offer innovative crypto assets while good faith discussions regarding appropriate regulation are ongoing.

VRCA T&Cs: April 30, 2024

Regulated CTPs will need to be in full compliance with all remaining VRCA T&Cs by this final deadline, summarized as follows. To the extent that there is a parallel condition in the VRCA Issuer Undertaking, the language in the VRCA T&C is almost identical.

• The Issuer must have provided the VRCA Issuer Undertaking (making April 30, 2024 the effective deadline for Issuers);
• The Issuer must publicly disclose:
  • Annual audited financial statements for each year ending after December 1, 2023;
  • Material terms of the VRCA, including issuance and redemption requirements, date of launch, key features and risks, all fees and revenues and holder rights on Issuer insolvency;
  • Daily, all outstanding units and aggregate nominal value;
  • Monthly, reserve attestations from a public accountant;
  • Key individuals on the management team;
  • Any suspensions of redemptions or failure to comply with redemption policies and procedures;
• The Crypto Asset Statement for each VRCA offered by the Regulated CTP must include 13 specific items, some of which are likely already covered in the CTP's existing Crypto Asset Statement, and the following which are specific to VRCAs:
  • Prominent statement that a VRCA is not the same as and is risker than a deposit in a bank or holding cash with the CTP;
  • Prominent statement of the Stablecoin Marketing Disclaimer;
  • Prominent statement that, due to uncertainties in the application of bankruptcy and insolvency laws, in event of insolvency of the Issuer, it is possible that creditors' rights over reserve assets could outrank, or interfere with, a holder's rights to the reserve;
  • Links to the Issuer's public disclosures required under the VRCA Issuer Undertaking;
  • Description of circumstances in which secondary market trading value for the VRCA may, and if applicable has, during the past 12 months, deviated from par with the reference currency;
  • Risks to the client resulting from trading in a VRCA that has not been distributed in compliance with securities laws; and
  • Risk arising from the fact that the CTP may not have, and the client does not have, a direct redemption right with the Issuer;
• The CTP must include the Stablecoin Marketing Disclaimer on all marketing materials accessible to Canadian investors that use the term "stablecoin";
• The CTP's KYP policies and procedures for VRCAs must include ongoing monitoring of the VRCA for satisfaction of other VRCA T&Cs;
• The CTP must have procedures for halting or suspending deposits or purchases of the VRCA as quickly as is commercially reasonable if the VRCA no longer complies with other VRCA T&Cs; and
• The CTP's offering of VRCAs must comply with the terms and conditions of its registration or PRU, for the purposes of which the VRCA will be treated as a "Crypto Asset" and a "Specified Crypto Asset".

Next Steps for VRCA Regulation

The CSA states that SN 21-333 is an interim approach, and ostensibly welcomes submissions regarding the appropriate long-term regulation of VRCAs, including potentially distributing stablecoins in compliance with the prospectus and dealer registration requirements of applicable securities laws or an alternative, comprehensive regulatory regime.

Because the VRCA Issuer Undertaking currently goes beyond most established regulatory frameworks for fiat-backed stablecoins like USDC, GUSD and PYUSD, there is a risk that VRCA Issuers may refuse to comply with SN 21-333. This would force Regulated CTPs to de-list such assets. It is possible that the U.S. will adopt federal stablecoin legislation in 2024, having advanced a bill from the Financial Services Committee to the House of Representatives in July 2023. If VRCA Issuers become subject to similarly stringent requirements in the U.S., the VRCA Issuer Undertaking may be easier for such Issuers to provide in order to keep their stablecoins available for trading on Regulated CTPs in Canada.

Footnote

1. Defined by the CSA based on the definition in the IOSCO Decentralized Finance Report (March 2022) as, "a subset of [crypto assets] created on a blockchain as a synthetic for a given token on another blockchain, thereby enabling the reference token to be used on a different blockchain. These tokens are often treated as if they are the equivalent of the original token, but they are technologically distinct and require either third-party custodians or the creation and operation of smart contracts on each blockchain."