UK’s Financial Conduct Authority will not regulate Bitcoin and Ethereum

This week, the UK’s Financial Conduct Authority (FCA) released a new policy statement on crypto assets. The document is intended to provide further regulatory clarity to crypto asset users, consumers and businesses in the UK.

Libra is a global catalyst

Facebook’s recent announcement of the Libra digital coin project has ramped up the pressure on global financial regulators. The recent Libra hearings in the US Senate demonstrate that politicians are taking immediate steps to clarify their thinking on the crypto asset space. Already there are signs that some representatives have a more nuanced understanding of the subtle differences between Bitcoin and Libra than might be expected.

The UK situation

The FCA document, PS19/22: Guidance on Cryptoassets, is the final version of a consultation paper released for public comment in January. While UK policy will continue to be informed by other international regulatory bodies, particularly in light of the evolving global response to Libra, the newly released guidance does provide some regulatory clarity to crypto asset users, consumers and businesses in the UK.

Crucially, the FCA has confirmed that it sees the two leading digital assets, Bitcoin and Ether, as ‘exchange tokens.’ The paper states that these crypto assets are “usually decentralized and primarily used as a means of exchange.” As such, the FAC says that digital currencies do not fall under the regulatory scope of the FCA.

Security tokens and utility tokens on notice

Security tokens and some utility tokens, however, do fall under the regulatory scope of the authority the regulator says. Security tokens are described as “digital assets with specific features that provide rights and obligations related to specific investment products such as shares or debt instruments.” The FCA defines utility tokens as “tokens that grant holders access to a current or prospective product or service but do not grant holders rights that are the same as those granted by specified investments. Although utility tokens are not specified investments, they might meet the definition of e-money in some circumstances (as could other tokens). In this case, activities involving them may be regulated.”

The FCA conceded that further clarity in this area is needed so that market participants are clear that the important regulatory distinction lies in whether the token is regulated, or not. For example, the line where a utility token may or may not be regulated needs further delineation.

Crypto asset law specialist James Kaufmann (a partner at Howard Kennedy) says that we now have confirmation that exchange and utility tokens will continue to fall outside of the FCA’s regulatory perimeter, however, in the case of exemptions such as utility tokens used in e-money schemes, regulation will apply. These tokens will fall within the remit of the European Union’s 5^th Anti-Money Laundering Directive, which is being transposed into UK law later this year.

Stablecoins may also fall within the definition of e-money. “The FCA will provide further clarity on types of tokens in due course,” Kaufmann says. “It will separate e-money tokens from the utility tokens and security tokens category, creating a specific regulated e-money token category and an unregulated category that includes utility tokens. Any legislative process to widen the regulatory perimeter is long-winded and time-consuming, so it is not surprising that the FCA has stated in the guidance that other conduct-based regimes and rules such as SM&CR and Principles for Business may apply to firms using unregulated tokens. In short, we are edging towards a scenario where there are indirect catch-all provisions until more FCA regulatory time and resource can be spent on the subject.”

The new guidance follows several FCA crypto asset related announcements earlier in the year. On July 3rd the Authority proposed a ban on the sale of cryptocurrency derivatives and exchange-traded notes to retail investors, saying such products are not appropriate for retail consumers, as they cannot reliably assess the value and risks of crypto derivatives or ETNs due to:

• the inherent nature of the underlying assets, which have no reliable basis for valuation;
• the prevalence of market abuse and financial crime in the secondary market for cryptoassets (eg cyber theft);
• extreme volatility in cryptoasset prices movements, and;
• inadequate understanding by retail consumers of cryptoassets and the lack of a clear investment need for investment products referencing them.