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Crypto assets defined as financial products

02 December 2020 Caveat Legal
Kerry Kopke, Financial Services Legal Specialist at Caveat Legal

Kerry Kopke, Financial Services Legal Specialist at Caveat Legal

Summary:
Crypto assets have been declared financial products in a draft declaration issued by the FCSA
• The draft is open to comment from the public until 28 January 2021
Those providing advice or intermediary services in respect of crypto assets will need to register as financial services providers and be subject to stricter controls

On 20 November 2020, the Financial Sector Conduct Authority (FSCA) published the draft declaration of crypto assets as a “financial product” as defined in terms of section 1 of the Financial Advisory and Intermediary service Act 37 of 2002 (FAIS Act). This publication has ended years of speculation about the classification and regulation of cryptocurrency in South Africa and brings it for the first time into the regulatory fold.

“Bitcoin and other cryptocurrencies sparked a modern gold rush in recent years, spurred by stories of individual Bitcoin investors making millions in short periods. The appeal of quick fortune changed the perception of cryptocurrency from a form of currency to an investment product,” says Kerry Kopke, financial services legal specialist at Caveat Legal.

A cryptocurrency is a digital and decentralised currency in the form of a stream of data blocks that uses a peer-to-peer network to process transactions. It is facilitated by blockchain or distributed ledger technology which records the transactions between two individuals in a data base, much like duplicate accounting entries in a ledger.

“But investing in cryptocurrency is the acquisition of an interest in a ledger entry” says Kopke, “and as an investment it is that interest that conceptually must be classified and regulated”.

Cryptocurrency itself has been difficult to regulate because as a digital currency it operates across borders without any jurisdiction. It is, however, possible to regulate the investment in cryptocurrency based on the jurisdiction of the financial service provider.

The FSCA has clarified - by the use of the words “crypto assets” - that it is the investment services related to cryptocurrency and not the cryptocurrency itself that it seeks to regulate. In terms of the current proposed declaration, “crypto assets” are defined as “any digital representation of value that can be digitally traded, or transferred, and can be used for payment or investment purposes, but excluding digital representations of fiat currencies or securities that already fall within the definition of financial product.”

In August this year, the FSCA issued a press statement that it was investigating Mirror Trading International (MIT), a cryptocurrency trading company that pools clients’ Bitcoin into a trading account on a forex derivative trading platform. In the FSCA’s view, the activities of MIT constituted “financial services” under the FAIS Act and there was cause for concern about the billions of investors’ assets housed with MIT and promise of unrealistically high returns. This action by the FSCA highlighted the FSCA’s commitment to protect the investor and forewarned the impending regulation of crypto assets as a financial product under FAIS.

“The proposed amendments mean that those providing advice or intermediary services in respect of crypto assets would have to register as financial services providers under the FAIS Act and comply with its obligations,” says Kopke. “This would extend to cryptocurrency brokers, advisors, exchanges and platforms. The regulation would also require enhanced disclosure mechanisms of the increased risk to investors posed by investment in crypto assets.”

The public has until 28 January 2021 to comment on the FSCA’s draft declaration.

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