FMA mov­ing to clar­ify the reg­u­la­tory sta­tus of cryp­tocur­ren­cies

Otago Daily Times - - BUSINESS & MONEY - DAVID SMILLE David Smil­lie is a part­ner in the law firm Gall­away Cook Al­lan.

GLOBAL at­ten­tion is gath­er­ing apace on block chain tech­nolo­gies and cryp­tocur­ren­cies (such as Bit­coin and Ethereum) as part of the lat­est wave of fi­nan­cial tech­nol­ogy in­no­va­tion and the digi­ti­sa­tion of fi­nan­cial ser­vices. This is lead­ing to the first wave of reg­u­la­tory re­sponse, in­clud­ing early guid­ance from the Fi­nan­cial Mar­kets Au­thor­ity (FMA) here in New Zealand.

The FMA has re­cently re­leased com­men­tary on two as­pects of cryp­tocur­ren­cies: Ini­tial Coin Of­fers and in­vestor cryp­tocur­rency ser­vices and how these re­late to the ex­ist­ing fi­nan­cial mar­ket frame­work set out in the Fi­nan­cial Mar­kets Con­duct Act 2013 (FMCA). This ar­ti­cle fo­cuses on in­vestor­fac­ing cryp­tocur­rency ser­vices and the FMA’s guid­ance around these ser­vices.

While there is not yet cer­tainty whether cryp­tocur­ren­cies are treated as a ‘‘fi­nan­cial prod­uct’’ for the pur­poses of the FMCA, it ap­pears that guid­ance is trend­ing in that di­rec­tion, with the FMA re­cently an­nounc­ing that all cryp­tocur­ren­cies are treated as se­cu­ri­ties. This means that the ser­vices that fa­cil­i­tate in­vest­ment and trad­ing in cryp­tocur­ren­cies will be reg­u­lated ac­cord­ingly.

In­vest­ment in cryp­tocur­ren­cies is sim­i­lar to in­vest­ment in tra­di­tional se­cu­ri­ties in that it in­volves deal­ing with a mar­ket (called an ex­change) and an ac­count (called a wal­let).

Ex­changes are of­ten the first port of call for in­vestors ex­chang­ing New Zealand dol­lars into a cryp­tocur­rency or vice­versa and are then also used to ex­change one cryp­tocur­rency for an­other. A wal­let is sim­ply an ac­count that holds the cryp­tocur­rency and can make and re­ceive trans­fers of cryp­tocur­ren­cies in the same way a bank ac­count or trad­ing ac­count does.

It is likely that busi­nesses oper­at­ing ex­changes that deal with the trad­ing of cryp­tocur­ren­cies will be deemed to be oper­at­ing a ‘‘value trans­fer ser­vice’’ and will need to com­ply with the Fi­nan­cial Ser­vice Providers (Reg­is­tra­tion and Dis­pute Res­o­lu­tion) Act 2008.

Wal­lets both hold and trans­fer cryp­tocur­ren­cies and some wal­lets also con­tain the abil­ity to ex­change an in­vestor’s cryp­tocur­ren­cies for an­other cryp­tocur­rency with­out en­ter­ing an ex­change.

Busi­nesses pro­vid­ing wal­let ser­vices will also need to con­sider whether they are oper­at­ing a ‘‘value trans­fer ser­vice’’ and whether in­vestors’ de­posits qual­ify as debt se­cu­ri­ties un­der the FMCA, which at­tract ad­di­tional reg­u­la­tory re­quire­ments.

As far as re­tail in­vestors go, the cryp­tocur­rency mar­ket within New Zealand is rel­a­tively illiq­uid com­pared to over­seas, with a cor­re­spond­ingly lower num­ber of ser­vice providers for in­vestors to use. This means that in­vestors are of­ten procur­ing ser­vices from dif­fer­ent ju­ris­dic­tions, most no­tably the United States and there­fore will not have the same le­gal pro­tec­tions un­der the FMCA as in­vestors us­ing lo­cal New Zealand based ser­vices.

Given that there is a smaller mar­ket for cryp­tocur­rency ser­vices in New Zealand and the ad­di­tional cost that comes with com­ply­ing with New Zealand reg­u­la­tion, in­vestors are typ­i­cally charged a pre­mium for us­ing a lo­cal ser­vice provider which can range up to 20% for ex­change ser­vices.

In­vestors deal­ing only with New Zealand based ser­vices should have a higher chance of re­cov­er­ing their funds if things go wrong, which can be all too of­ten in such a fast­mov­ing and volatile en­vi­ron­ment. Just this week it has been re­ported that US$280 mil­lion of the Ethereum cryp­tocur­rency has been ‘‘locked up’’ due to one per­son’s er­ror in delet­ing the soft­ware code li­brary re­quired to use the rel­e­vant wal­let ser­vice.

In­vestors us­ing off­shore on­line­only ser­vices will of­ten find it ex­tremely dif­fi­cult to en­gage in any dis­pute res­o­lu­tion or re­cov­ery with these ser­vices.

Be­cause cryp­tocur­rency tech­nol­ogy is evolv­ing at such a rapid rate in a cur­rently lightly-reg­u­lated en­vi­ron­ment, both re­tail in­vestors and busi­nesses look­ing to pro­vide cryp­tocur­rency ser­vices should look to take good ad­vice be­fore com­mit­ting them­selves. The FMA is ex­pected to con­tinue to re­lease reg­u­la­tory guid­ance as the sec­tor de­vel­ops and ma­tures and it wel­comes en­gage­ment from prospec­tive ser­vice providers.


Un­der scru­tiny . . . . Ethereum, one of the vir­tual­money cryp­tocur­ren­cies.

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