On the heels of the collapse of FTX, the Securities and Futures Commission has taken the opportunity to step up regulatory efforts in Hong Kong aimed at virtual asset platforms offering deposits and similar investment products, cautioning investors of the risks associated with such products and prompting platform operators to consider whether such products may be regulated as collective investment schemes. In this article, we provide context on this latest regulatory guidance. If you’d like to find our more about Hong Kong regulations in respect of virtual assets, please contact one of our distributed ledger technology (DLT) and fintech lawyers.
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On December 13, 2022, the Securities and Futures Commission issued its “Statement on Virtual Asset Arrangements Claiming to Offer Returns to Investors” (“Virtual Asset Deposit Statement”). While the statement seeks to caution investors on the risks associated with virtual asset platforms offering so-called “deposits”, “earnings” or “staking services” (together “Virtual Asset Deposits”), it also cautions that such investment products may constitute “collective investment schemes” under the Securities and Futures Ordinance (“SFO”). If they constitute collective investment schemes, the offer of such products may be regulated and in particular, may require authorization from the Securities and Futures Commission (“SFC”).
Regulation of Virtual Asset Platforms
In earlier regulatory guidance, the SFC has taken the view that a virtual asset platform generally falls outside the licensing regime under the SFO if the virtual assets in which the platform deals fall outside the scope of “securities” or “futures contracts” as defined under the SFO. As a result, platforms dealing in plain vanilla crypto currencies often need not be licensed.
However, earlier this month, the Legislative Council passed new legislation to amend the Anti-Money Laundering and Counter-Terrorist Financing Ordinance (“AMLO”). These amendments create a new licensing regime for virtual asset exchanges and may bring virtual asset platforms offering Virtual Asset Deposits into the regulatory net. These amendments are scheduled to take effect in April, 2023 (subject to some exceptions).
Regulation of Virtual Asset Deposits
Deposit taking is regulated in Hong Kong under the Banking Ordinance. However, as the Virtual Asset Deposit Statement notes, while some Virtual Asset Deposits are marketed as “deposits” or “savings” products, they are not the same as bank deposits and are not regulated as such. Nevertheless, the SFC notes that that some Virtual Asset Deposits may constitute collective investment schemes.
What is a Collective Investment Scheme?
Under the SFO, in simplified terms, a “collective investment scheme” means an arrangement in respect of property in which:
participants in the arrangement do not have day-to-day control over the management of the property;
the property is managed as a whole by or on behalf of the person operating the arrangements and/or contributions of the participants in the arrangement and the profits or income from which payments are made to them are pooled; and
the purpose or effect of the arrangement is for participants in the arrangement to participate in or receive profits, income or other returns from the acquisition, holding, disposal or management of the property.
How are Offers of Collective Investment Schemes Regulated?
The SFO provides that, unless exempted, the issue of any offer which is or contains an invitation to the public to acquire an interest in or participate in, or offer to acquire an interest in or participate in, a collective investment scheme, must be authorized by the SFC. As a result, the sale of any Virtual Asset Deposit may require SFC authorization.
Are there Other Consequences of Being a Collective Investment Scheme?
Collective investment schemes are securities. As a result, if a Virtual Asset Deposit is regarded as a collective investment scheme, the sale of such an arrangement may constitute the regulated activity of “dealing in securities” (Type 1 regulated activity). Under the SFO, unless exempted, any person carrying on a business in a regulated activity must be licensed by the SFC.