Regulators and policymakers around the world have been busy trying to get to grips with cryptocurrencies, particularly following a massive surge in interest in this area over the past year.
Hong Kong regulators are studying the evolving situation carefully, and will almost certainly be putting out regulations sooner rather than later.
What is Cryptocurrency?
Cryptocurrency is a digital medium of exchange, or virtual currency, invariably based on blockchain technology. Cryptocurrency is used for a number of things including trading (against other cryptocurrencies, against national currencies), fundraising, and as a medium of payment. As at the date of writing, most digital currencies globally are unregulated, and much of the interest in these currencies is to trade them for profit. The best-known cryptocurrency is Bitcoin which was created in 2009 and was the world’s first cryptocurrency.
Regulatory Position in Hong Kong under the SFO
The Securities and Futures Ordinance (“SFO”) defines “securities” in detail. The offer of securities, and the licensing of parties involved in securities offerings, are comprehensively regulated under the SFO. The SFO imposes onerous requirements on securities offerings and market intermediaries.
In February this year, the Hong Kong Securities and Futures Commission (“SFC”), the city’s capital markets watchdog, issued a statement that it had written to seven cryptocurrency exchanges in Hong Kong that they should not trade cryptocurrencies which may constitute “securities” under the SFO, without complying with the requirements under the SFO.
This followed a statement issued by the SFC in September 2017 relating to existing regulations that could apply to initial coin offerings (“ICO”). ICOs involve the issuance of digital tokens, created and disseminated by blockchain technology. An ICO is a type of fundraising similar to the initial public offerings of stock, in which the public is allowed to buy coins in the offering.
Depending on the facts and circumstances of an ICO, digital tokens that are offered or sold may be “securities” as defined under the SFO, and thus subject to the securities laws of Hong Kong. The SFC has advised that parties engaged in dealing in, advising on, managing or marketing a fund investing in these tokens targeting the Hong Kong public to acquire an interest or participate in a collective investment scheme may constitute a regulated activity and are required to be licensed or registered with the SFC, irrespective of where they are located.
Recent Regulatory Action against Black Cell ICO
On 19 March 2018, the SFC took regulatory action against ICO issuer Black Cell Technology Limited (“Black Cell”). Black Cell sold digital tokens to investors through its website accessible by the Hong Kong public. Its pitch was that ICO proceeds would be used to fund the development of a mobile application and that holders of the tokens could redeem the tokens for equity shares of Black Cell.
The SFC considers such an arrangement a collective investment scheme (“CIS”) and hence regarded as “securities” under the SFO, unless an exemption applies.
According to Schedule 1 to the SFO, a CIS has four relevant elements: (a) it must involve an arrangement in respect of property; (b) participants do not have day-to-day control over the management of the property even if they have the right to be consulted or to give directions about the management of the property; (c) the property is managed as a whole by or on behalf of the person operating the arrangements, and/or the contributions of the participants and the profits or income from which payments are made to them are pooled; and (d) the purpose of the arrangement is for participants to participate in or receive profits, income or other returns from the acquisition or management of the property.
Following SFC’s action, Black Cell halted its ICO to the Hong Kong public and unwound its ICO transactions for Hong Kong investors by returning them the relevant tokens. The company has also undertaken not to devise, set up or market any scheme that constitutes a CIS unless in compliance with the relevant requirements under the SFO.
The SFC’s stance on cryptocurrency gets the lion’s share of media attention, as far as cryptocurrency regulation in Hong Kong is concerned.
Cryptocurrency market participants should also bear in mind that other laws and regulations may govern their actions when issuing tokens, trading cryptocurrency and using cryptocurrency. These laws could include:
- the Anti-Money Laundering and Counter-Terrorist Financing Ordinance (Chapter 615 of the Laws of Hong Kong)
- the Drug Trafficking (Recovery of Proceeds) Ordinance (Chapter 405 of the Laws of Hong Kong)
- the Organized and Serious Crimes Ordinance (Chapter 455 of the Laws of Hong Kong)
- the United Nations (Anti-Terrorism Measures) Ordinance (Chapter 575 of the Laws of Hong Kong)
- the Personal Data (Privacy) Ordinance (Chapter 486 of the Laws of Hong Kong)
We advise cryptocurrency clients on compliance with the SFO and other Hong Kong laws and regulations. If you are considering an offering of tokens that could be available to Hong Kong investors, consult us to make sure your offering complies with Hong Kong’s securities laws.