UK regulatory approach to cryptoassets: Draft SI amending the Financial Promotions Order | Hogan Lovells

In a long-awaited development, HM Treasury (HMT) published the draft version of the Financial Services and Markets Act 2000 (Financial Promotion) (Amendment) Order 2023 (the draft SI) on 27 March 2023 together with a draft explanatory memorandum. HMT also published a Keeling schedule (ie a redline) to assist with interpretation of the draft SI.  This measure forms part of the UK government’s wider staged approach to regulating the cryptoasset sector, alongside the consultation on future cryptoasset regulation and new powers and provisions included in the Financial Services and Markets Bill 2023.

Background to the draft SI amending the FPO

In July 2020, HMT published a consultation on bringing “qualifying cryptoassets” into the scope of the financial promotions regime. HMT’s consultation response in January 2022 confirmed the government’s plan to extend the financial promotions perimeter by adding a definition of qualifying cryptoassets to the list of controlled investments in the FPO to address the consumer risks of misleading cryptoasset promotions. The FCA also consulted on proposed rules for cryptoasset promotions, such as risk warnings and consumer frictions in January 2022 with the corresponding Policy Statement (PS22/10) published in August 2022. In response to the feedback it had received regarding potential unintended consequences for the cryptoasset industry relating to the planned legislation, HMT confirmed an updated policy approach on 1 February 2023 which provides for a temporary limited exemption (further detailed in the draft SI) from the financial promotion restriction to enable cryptoasset businesses registered with the FCA under the Money Laundering, Terrorist Financing and Transfer of Funds (Information on the Payer) Regulations 2017 (AML/CTF regulations), who are not otherwise authorised persons, to communicate their own financial promotions in relation to qualifying cryptoassets.  We covered this updated policy statement in our Engage article: UK: Bespoke temporary exemption for financial promotions relating to qualifying cryptoassets.  On 1 February 2023, HMT also published its consultation and call for evidence on a new regulatory regime for cryptoassets which is open until 30 April 2023. Further information on the HMT consultation and Call for Evidence is set out in our Engage article: UK Cryptoassets: HMT consultation and call for evidence on a future financial services regulatory regime. 

Financial promotion restriction

Section 21 of the Financial Services and Markets Act (FSMA) provides that a person, in the course of business, must not communicate an invitation or inducement to engage in investment activity, or claims management activity, unless (i) they are an authorised person (under Part 4A of FSMA), (ii) the content of the communication is approved by an authorised person, or (iii) an exemption applies. This is known as the financial promotion restriction. “Engaging in investment activity” is defined as entering or offering to enter into an agreement the making or performance of which by either party constitutes a controlled activity; or exercising any rights conferred by a controlled investment to acquire, dispose of, underwrite, or convert a controlled investment. The Financial Services and Markets Act 2000 (Financial Promotion) Order 2005 (FPO) specifies controlled activities and controlled investments and sets out a number of exemptions from the financial promotion restriction.  HM Treasury is using its powers under FSMA to make amendments to the FPO in the draft SI.

What is the purpose of the draft SI in relation to cryptoassets?

The draft SI expands the scope of the financial promotion restriction in section 21 of FSMA by amending the FPO to include financial promotions in respect of “qualifying cryptoassets” (defined below) which the draft SI adds to the list of controlled investments in Part II of Schedule 1 to the FPO. It also amends certain existing controlled activities, as set out in Part I of that Schedule, to include reference to qualifying cryptoassets.

The expansion of the financial promotions regime to cryptoassets is aimed at improving consumers’ understanding of the risks associated with cryptoasset investments and ensuring that cryptoasset promotions are held to the same standards as for broader financial services promotions.

The draft SI also applies and modifies certain existing exemptions in the FPO to qualifying cryptoassets and as mentioned earlier creates a bespoke temporary exemption to the financial promotion restriction (imposed by section 21(1) of FSMA), for cryptoasset businesses (which are not otherwise authorised persons) on the FCA’s anti-money laundering register. The government intends that this exemption will be temporary. The government is preparing to bring stablecoins with propensity to be used for payment into the scope of regulation and is also consulting on its future regulatory approach to unbacked cryptoassets and intends to review its approach to the exemption alongside the future regulatory approach to cryptoassets.

Certain cryptoassets such as security tokens (which are already controlled investments for the purposes of the FPO) are already subject to the financial promotions regulatory regime. The purpose of the draft SI is to bring the majority of cryptoassets (e.g., exchange tokens such as Bitcoin) which are currently outside of the definition of controlled investment, within the scope of the financial promotion regime. The draft SI is not seeking to bring into scope non-fungible tokens (NFTs) as these have so far tended to be used in a way more akin to digital collectibles than financial investments.

Fourth month implementation period

The draft SI provides for an implementation period of four months from the day after the SI is made before it enters into force. This represents a very tight timescale for firms putting their processes in place in order to comply with the new financial promotion regime especially as the draft SI is likely to be laid before parliament to coincide with the Financial Services and Markets Bill which is expected to receive Royal Assent in April 2023. The explanatory memorandum sets out that the implementation period has been reduced from six months to four due to recent market turmoil and the perceived growing consumer risks and harms relating to cryptoassets.  Given the government’s programme for strengthening the financial promotions regime has taken longer than planned to introduce, shortening the implementation period assists with progressing this policy.

The updated policy approach from 1 February 2023, also opened up the list of potential approvers of cryptoassets which again might have led to the government to believe that a longer implementation period wasn’t necessary.  Whilst there are benefits for having a wider range of approvers, it does mean that there is more complexity and costs for firms in putting the various processes in place especially within the tight timescale. A full impact assessment for the draft SI has not been produced but a de minimis assessment has concluded that the Equivalent Annual Net Direct Cost to Business would fall beneath the £5 million threshold for impact. The practical impact of these new rules may outweigh that significantly for firms having to change their policies, procedures and personnel to ensure they are in compliance.  A full cost benefit analysis of the updated policy approach published on 1 February 2023 was not published alongside the updated approach.

Qualifying cryptoasset definition

The draft SI provides long-awaited clarity on the definition of “qualifying cryptoasset” which is set out in the draft SI as meaning any cryptoasset which is (a) fungible: and (b) transferable.

The circumstances in which a cryptoasset is to be treated as “transferable” include where:

• it confers transferable rights; or
• a communication made in relation to the cryptoasset describes it as being transferable or conferring transferable rights.

A cryptoasset does not fall within the definition if it is:

• a controlled investment falling within any of paragraphs 12 to 26E or, so far as relevant to any such investment, paragraph 27 of the FPO;
• electronic money;
• fiat currency;
• digitally issued fiat currency; or
• a cryptoasset that

  • cannot be transferred or sold in exchange for money or other cryptoassets, except by way of redemption with the issuer; and

  • can only be used in a limited way and meets one of the following conditions—

The draft SI provides that “cryptoasset” means any cryptographically secured digital representation of value or contractual rights that:

• can be transferred, stored or traded electronically, and
• uses technology supporting the recording or storage of data (which may include distributed ledger technology).

“Digitally issued fiat currency” means fiat currency issued in digital form; “electronic money” has the meaning given by regulation 2(1) (interpretation) of the Electronic Money Regulations 2011(a).”.

Next steps

According to the explanatory memorandum, HM Treasury will not be issuing further guidance relating to the draft SI or its implementation.  The draft SI will be made when parliamentary time allows and is likely to coincide with the Royal Assent of the Financial Services and Markets Bill which is due to happen around mid/end April 2023. The FCA intends to amend its perimeter guidance for authorised and registered firms to reflect the new financial promotion regime for cryptoassets. In terms of the bespoke limited exemption, the government intends to review its approach alongside the future regulatory approach to cryptoassets.  HMT’s consultation for the wider regulatory approach in relation to cryptoassets ends on 30 April 2023.  Given the tight timescales for implementation once the draft SI is made, all cryptoasset firms marketing to UK consumers should start preparing for the expansion of the financial promotions regime.  Our specialist Global Digital Assets and Blockchain Practice would be happy to provide further advice and guidance in relation to this key development.