On 30 October 2023, the United Kingdom HM Treasury (“HMT”) published its response[1] (the “Response”) to its February consultation on the future regulatory regime for cryptoassets (the “February Consultation”).[2] The Response confirms that HMT will proceed with the policy proposals in the February Consultation, which are broadly unchanged. We outline the Response below.
Scope: Proposed statutory definition of a “cryptoasset”
Whilst acknowledging the breadth of this definition, the “cryptoasset” definition HMT proposed in the February Consultation is unchanged, with HMT arguing that the proposed definition is deliberately broad to ensure “future proofing”.
Therefore, a cryptoasset will remain defined as:
“any cryptographically secured digital representation of value or contractual rights that—
(a) can be transferred, stored or traded electronically, and
(b) that uses technology supporting the recording or storage of data (which may include distributed ledger technology).”
This definition will continue to differ from the cryptoasset definition in the EU’s Markets in Cryptoassets Regulation (“MICA”), “the digital representation of a value or a right which may be transferred and stored electronically, using distributed ledger technology or similar technology”, and the cryptoasset definition in Regulation 14A(3)(a) of the UK Money Laundering, Terrorist Financing and Transfer of Funds (Information on the Payer) Regulations 2017 (the “MLRs”) “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”.
HMT has also confirmed that cryptoassets will not be “financial instruments” for UK purposes under HMT’s proposals, so any associated FCA rules applicable to financial instruments (for example, those deriving from the retained Markets in Financial Instruments Directive) will not apply.
Scope: Regulated cryptoasset activities
HMT has confirmed that the new specified activities in relation to cryptoassets set out in the February Consultation are unchanged.
Therefore, the following will become regulated activities, through amendment to UK’s Financial Services and Markets Act 2000 (“FSMA”)) Regulated Activities Order 2001 (the “RAO”):
- admitting a cryptoasset to a cryptoasset trading venue
- making a public offer of a cryptoasset
- operating a cryptoasset trading venue
- dealing in cryptoassets as principal or agent
- arranging (bringing about) deals in cryptoassets
- making arrangements with a view to transactions in cryptoassets
- operating a cryptoasset lending platform
- safeguarding or safeguarding and administering (or arranging the same) a cryptoasset other than a fiat-backed stablecoin and/or means of access to the cryptoasset
Firms that are not FCA authorised need to apply to the FCA for authorisation to carry out these activities.
Firms that are already FCA authorised and intend to undertake any of these activities will generally need to apply for a variation of their permission from the FCA. Regulatory permissions will not be automatically granted for firms that are already FCA authorised.
HMT intends to lay the relevant amendments to the RAO for parliamentary approval in 2024.
As such, if approved, we expect these amendments to come into effect before the end of the current UK parliamentary session, Q3 2024. Note that MiCA rules on the provision of cryptoasset services will not enter into force until December 2024.
Some further points:
Extra-territoriality: HMT has confirmed that the amendments to the RAO intend to capture cryptoasset activities provided in or to the UK. This would include activities provided by UK firms to persons based in the UK or overseas (natural and legal), as well as those provided by overseas firms to UK persons (natural or legal).
HMT has confirmed that it will not extend the current “overseas persons exemption” in the RAO, permitting firms located outside of the UK to carry out FCA-regulated activities with UK clients without FCA authorisation, to firms carrying out regulated cryptoasset activities.
However, HMT states that “firms dealing directly with retail consumers should be required to be authorised irrespective of where they are located”. As such, HMT may in any final rules draw a distinction between an overseas firm carrying out regulated cryptoasset activities for a retail client, as opposed to carrying out these activities for a professional client.
HMT makes no comment on whether an overseas firm can provide cryptoasset services to UK clients by way of “reverse solicitation”, where a UK customer would access a particular cryptoasset service entirely at their own initiative from an overseas firm, and this firm does not otherwise solicit from such customers.
HMT gives no specific guidance on the type of physical presence that a firm would need to have in the UK in order to obtain authorisation, stating that this would be for the FCA to determine at the point at which the firm applies for authorisation. However, in the context of operating a cryptoasset trading venue, HMT recognises that this activity could be carried out by an FCA-authorised branch of the overseas firm carrying out this activity, as opposed to a separate subsidiary.
Investment management and investment advice: The Response says that whether managing cryptoassets and giving investment advice in relation to cryptoassets should be included in the list of regulated activities is still under review. HMT has a particular concern that, if advising on cryptoassets was a regulated activity, firms would struggle to comply with the applicable suitability assessment obligation since (i) the price and value of most cryptoassets is driven by speculative investment decisions, rather than market fundamentals that can be objectively assessed; and (ii) a firm’s ability to conduct due diligence on a cryptoasset issuer is potentially very limited.
Cryptoasset issuance and disclosures:
HMT has confirmed the issuance and disclosures regime described in the February Consultation. Firms will be subject to disclosure requirements when:
- admitting a cryptoasset to a trading venue; and/or
- making a public offer of cryptoassets (including initial coin offerings (“ICOs”)
Some further points:
Content of admission disclosure documents. HMT intends that trading venues should define the detailed content for admission disclosure documents but is supportive of the idea of a centralised coordinating body (such as an industry association) to coordinate this, with FCA oversight.
Wholesale versus retail disclosures: HMT agrees, in principle, with the idea that disclosure requirements would be less prescriptive for venues that only admit institutional investors.
Liability arrangements: Firms required to publish cryptoasset disclosure documents will be liable for their accuracy.
However, cryptoasset exchanges, which choose to take responsibility for the disclosure documents, should not be held liable for all types of consumer losses arising from events relating to the underlying product, provided they have taken reasonable care to identify and describe the risks. For example, where a loss is caused by a failure of the underlying protocol or network that is not controlled or operated by the trading venue, this would be unlikely to give rise to liability.
Operating a cryptoasset trading venue
The proposals – that operating a cryptoasset trading venue should be an FCA-regulated activity, and that persons carrying out these activities should be subject to prudential rules and other requirements, including consumer protection, operational resilience=, and data reporting – are unchanged.
Cryptoasset intermediation activities
The proposals regarding cryptoasset intermediation activities are broadly unchanged. Additional rules or guidance may be needed to address specific risks and characteristics of cryptoasset market intermediation (such as the methods for determining whether an intermediary has acted in accordance with the “best interests” of a client).
Cryptoasset custody
The proposals to apply and adapt existing frameworks for custodians under Article 40 of the RAO for cryptoasset custody activities are unchanged.
As a reminder, this new FCA-regulated activity would be broader than the Article 40 RAO activity, as it would capture firms that only safeguard (but do not administer) assets. Note that the activity of providing self-hosted wallet technology to a consumer is not expected to fall under the definition of “safeguarding” or “safeguarding and administering”.
Operating a cryptoasset lending platform
HMT intends to proceed with the proposal to establish a new regulated activity of “operating a cryptoasset lending platform”.
Some related points:
Wholesale versus retail lending: HMT agrees that in principle, wholesale bilateral cryptoasset lending arrangements should not be subject to the same types of regulatory requirements as retail.
However, as wholesale cryptoasset lending could generate similar systemic risk to securities lending, HMT envisages some additional requirements similar to the UK Securities Financing Transactions Regulation (SFTR) (counterparty and transactions details, collateral composition, rehypothecation, substitution of collateral at the end of the day and haircuts) to help improve transparency.
Cryptoasset lending vs. cryptoasset staking: HMT agrees with feedback recommending different regulatory treatment for cryptoasset lending and cryptoasset staking (the latter not being viewed as cryptoasset lending if it does not involve transfer of legal title of the cryptoasset in question).
Cryptoassets and market abuse
HMT intends to take forward most of the other proposals in the February Consultation, including the suggested scope of the regime, the regulatory trigger points, and the use of MAR as the basis for a crypto market abuse regime, including prohibitions on insider dealing, market manipulation and unlawful disclosure of inside information. Obligations will apply to cryptoasset trading venues and other regulated market participants.
