FINMA published the Guidance 04/2017 in September 2017, setting out its initial position on ICOs and highlighted specific areas in which ICOs fall into the existing financial regulation in Switzerland. On 16 February 2018, the Swiss Financial Market Supervisory Authority released a set of guidelines with the purpose of providing market participants with information on how to deal with enquiries regarding the regulatory and supervisory framework for ICOs. The guidelines also specify the information FINMA needs to process enquiries from market participants and set out the principles on which FINMA will respond to said enquiries.
ICOs are used for investors to transfer funds to the organizers, usually in the form of cryptocurrencies. In return, investors receive tokens or blockchain-based coins, created and stored in a decentralized form, either on a blockchain created for the ICO or through a smart contract on a pre-existing blockchain.
How to send an enquiry to FINMA
As the number of ICO projects has been increasing over the last months in Switzerland, FINMA has been receiving a significant number of enquiries from market participants regarding the applicability of financial market regulation to ICOs and the existence of licensing requirements. In order to receive a proper assessment ICO organizers must define and document the terms and conditions of their planned ICO.
Enquiries can be submitted to FINMA’s FinTech Desk in one of the official languages used in Switzerland (German, French and Italian) or in English. Enquiries are processed in exchange for a fee. ICOs that have already taken place will be assessed to investigate potentially unlicensed activities. The same applies for enquiries made to receive information.
FINMA assesses enquiries only from the financial market regulation perspective. ICOs organizers have the responsibility to comply with other regulations, especially under tax law or civil law.
Minimum information required for ICO enquiries
All ICO enquiries sent to FINMA must include the following information:
- General information – name of the project, company’s name and identification details, details for all persons involved (founder, token issue and token seller, secondary trading participants), licenses provided under financial market law in other countries, if applicable.
- Project description – project organization and planning, key features of the services to be developed, market participants targeted by the ICO, investors restrictions if applicable, technologies to be used, cryptocurrencies to be used, fund raising target, fund distribution.
- Tokens – if tokens will be created, information must be provided regarding the technologies used, the time when tokens will be transferred to investors, planned functionalities for the tokens, rights acquired by investors through tokens, financial intermediaries commissioned to meet due diligence requirements if applicable.
- Transfer and secondary market – information about how the tokens will be transferred, if the token is functional or not at time of the transfer, how and where can the token be acquired or sold after issue, the possibility to use tokens to buy goods or services or to make payments to third parties, future plans of the project operator to buy back tokens.
Principles used by FINMA to assess enquiries
Currently, there are no ICOs – specific regulatory requirements included in the existing financial regulation. ICOs raise several legal issues that are not covered by a consistent legal doctrine or by relevant case law. A generalization is not possible, because of the wide variety of tokens and ICO set-ups. Therefore, the minimum information requirements for ICO organizers is based on the fundamental economic purpose of an ICO, especially if there are indications of existing attempts to avoid specific regulations.
Given the high level of interest from market participants and the market’s dynamic particularity, FINMA published its ICO guidelines in order to provide clarity and set out the principles on which it will establish its assessments and responses to enquiries.
As there is no recognized classification of ICOs and of the tokens resulting from them, neither in Switzerland or internationally, FINMA bases its approach on the fundamental economic purpose of the tokens.
- Payment tokens are considered synonymous to cryptocurrencies and are intended to be used at present time or in the future as means of payment for acquiring goods or services or for money or value transfer. Cryptocurrencies don’t give rise to claims on their issuer.
- Utility tokens have the purpose of providing digital access to services or applications using the means of a blockchain-based infrastructure.
- Assset tokens represent assets such as equity claims or debt on the issuer. Asset tokens are used to offer a share in future capital flows or in future company earnings. In terms of their economic purpose, these tokens are analogues to bond, derivatives or equities. In this category are also included tokens that enable blockchain trade of physical assets.
The classification of tokens doesn’t make them mutually exclusive, which means that there can also be hybrid tokens. For example, in some cases, tokens are deemed both as securities and as means of payment.
In the case of some ICOs, tokens are put into circulation since the point of fund raising, on pre-existing blockchains. In other cases, investors are only offered the prospects of receiving tokens at some point in the future and the tokens on the blockchain have to be developed. This situation is referred to as pre-financing. Another possible permutation is pre-sale, when investors receive tokens that entitle them to acquire other different tokens at a later time.
Tokens as securities
The securities regulation is created to enable market participants to base their investment decisions on reliable and clearly defined information. Thus, trade should be fair, reliable and provide efficient price formation.
FINMA will base its qualification of tokens as securities based on legal definitions. In the sense of the Financial Market Infrastructure Act, securities are standardized certified or uncertified securities, intermediate securities or derivatives. They are suitable for mass standardized trading, offered publicly for sale in the same denomination or structure or are placed with more than 20 clients, with the condition that they were not created specifically for individual counterparties.
Uncertified securities are defined as rights, issued or established in large numbers and are generally identical. Following the Code of Obligations, the only requirement is to maintain records with the details of the number and denomination of uncertified securities and with the creditors. This can be done on a blockchain or digitally.
- Payment tokens are not treated as securities by FINMA, which is consistent with its current practice regarding other cryptocurrencies. FINMA will revise its practice if payment tokens will be classified as securities through a new legislation or a new case law.
- Utility tokens are not treated as securities if their only purpose is to provide digital access to services or applications. If utility tokens have an investment purpose at the point of issue or this is an additional purpose, FINMA will treat the tokens as securities.
- Asset tokens are treated as securities if they represent an uncertified security, are standardized and suitable for mass standardized trading. Asset tokens can also qualify as securities if they represent derivatives, are standardized and suitable for mass standardized trading. For the pre-finance and pre-sale phases of an ICO, which provide claims to acquire tokens in the future, these claims will be also treated as securities if they are standardized and suitable for mass standardized trading.
Legal implications of tokens treated as securities
If based on the new guidelines FINMA considers that the tokens of an ICO can be treated as securities, they will fall under the securities regulation. Book-entry or self-issued uncertified securities is unregulated under the Stock Exchange Act, even if the uncertified securities are qualified as securities according to the Financial Market Infrastructure Act (FMIA). The same principle is applied to the public offering of securities to third parties.
However, the creation and issue of derivative products as defined by the FMIA on the primary market to the public is regulated. Therefore, underwriting and offering of tokens constituting securities to third parties publicly on the primary market is a licensed activity, if conducted in a professional capacity.
Tokens issued that are analogues to bond or equities may be a subject to requirements of the Swiss Code of Obligations. FINMA has no direct responsibility in this area, but ICOs organizers are expected to clarify these requirements by themselves. Prospectus requirements will become part of the supervisory law, according to the Financial Services Act. Both the Financial Services Act and the Swiss Code of Obligations provide a number of exemptions and exceptions.
Classification of deposits
The main purpose of the Banking Act is to protect the public, especially bank creditors and their deposits. Generally, the issue of tokens is not associated with claims for repayment on the ICO organizer. Such tokens are not considered deposits. To this exempt, it is not necessary to obtain a banking license.
However, if there are liabilities with the debt capital character, the raised funds are treated as deposits and it is required to obtain a banking license, unless certain exceptions apply.
Collective Investment Scheme Act applicability
The act is meant to protect investors and to ensure the proper functioning of the market for investment fund products. The provisions of the Collective Investment Scheme Act are applicable only if the funds accepted in the context of an ICO are managed by third parties.
Anti-Money Laundering Act applicability
The main purpose of the AMLA is to protect the financial system from money-laundering and financing of terrorism. Anyone who provides payment services, issues or manages a means of payment is considered a financial intermediary and thus a subject of the AMLA. The issue of payment tokens is considered issue of means of payment and is a subject of this regulation as long as the tokens can be transferred on a blockchain infrastructure. This may be the case of an ICO at the time or at a later date.
Anti-money laundering regulation is not applicable to utility tokens as long as the main purpose of the tokens is to provide digital access to a non-financial application of a blockchain technology.
On the other hand, the AMLA gives rise to a range of due diligence requirements such as establishing the identity of the beneficial owner and the obligation to affiliate to a self-regulatory organization or be a subject of FINMA’s direct supervision.
These requirements can be fulfilled by having the funds accepted using a financial intermediary who is a subject of AMLA in Switzerland and who exercises on behalf of the ICO organizer the due diligence requirements. In this case, the ICO doesn’t have to be an affiliate of a self-regulatory organization or be licensed by FINMA.
Under FINMA’s current practice, the exchange of cryptocurrencies for money or for different cryptocurrencies falls under the AMLA provisions. The same principle is applied to the offering of services to transfer tokens, if the service provider maintains the private key, acting as a custody wallet provider.
Following further consolidation of its supervisory practice in relation to ICOs and/other changes in the financial market legislation, FINMA may decide to publish its interpretation in the form of a circular.