Matus Steis
Jan 3 · 6 min read

Many people in the space believe that capital formation is the next killer app of the blockchain and that Security Token Offerings will soon see similar levels of enthusiasm exhibited in ICO markets. We have noticed that Europe has been particularly active in building the necessary regulatory infrastructure.

Overview of Regulations for Security Tokens in the EU

Security tokens are regulated as securities under MIFID II — Financial Instruments Directive (2014/65/EU). This is the most important piece of relevant European legislation defining what a security is. Security tokens will be probably treated as “transferable securities”. These are the most common form of securities, but they could also come in other forms, e.g. derivatives. The law regarding issuing and trading securities in the EU is currently being harmonized and in the process of gradual unification. This means it is becoming easier to offer and trade securities across the whole EU .

If one wants to issue transferable securities and offer them publicly, they need a prospectus approved by the national financial regulator of the respective member country. This is regulated by the Prospectus Directive (2003/71/ES) as of now. If the national regulator approves the prospectus in one EU country and the security needs to be offered in another EU country, it is only necessary to notify the regulator in the other country and the process is quite straightforward. In short, it is possible leverage blockchain-friendly EU countries to approve the prospectus, which can then be used in other EU countries by notifying the national regulatory bodies. Furthermore, a new Prospectus Regulation is planned for July 2019, so the process will most likely be even easier and more straightforward.

If certain criteria are met, the issuance of a prospectus is not necessary. However, these rules currently differ across the EU. For example, if a security token is issued in the Czech Republic, a prospectus is not necessary if the total value of issued securities does not exceed 1M EUR (1.5M EUR in Luxembourg, 2.5M EUR in Poland and Sweden and 5M EUR in Croatia, Spain and the UK). The new Prospectus Regulation states that if the issuer is raising up to 8M EUR, the country of issuance can decide whether the issuer needs to issue a prospectus. There are alternative conditions under which a prospectus is not necessary, e.g. when the nominal value of one security (token) or allocated minimum for one investor exceeds or is equal to a certain amount (e.g. 100k EUR in the Czech Republic).

In conclusion, issuing security tokens in the EU is definitely doable. The first issuance and public offer of security tokens of a security token exchange happened in Liechtenstein at the beginning of September 2018 .

Trading securities is harmonized and unified to some degree by the EU law, so it is relatively easy to trade them in the whole EU/EEA (European Economic Area) area. In order to facilitate trading security tokens through an exchange, it is necessary to obtain a license. One of the options is an MTF license (multilateral trading facility), which in the US could be compared to Alternative Trading System). It can be operated by a market operator or an investment firm. Also, the trading system is non-discretionary, which means that the investment firm operating an MTF has no discretion as to how interests may interact. Interests are brought together by forming a contract and the execution takes place under the system’s rules or by means of the system’s protocols or internal operating procedures. If a license is received in one EU/EEA country, it is necessary to go through the notifying process in other countries but this is also relatively straightforward.

Here is a quick summary of what has been done in individual European countries so far:

Switzerland

Switzerland is a country with a flourishing ICO market. Swiss-based ICOs raised about $550 million in funding in 2017 , which was about 14 percent of the global ICO market; Switzerland is ranked number one in a list of the top ten European countries for starting a blockchain company; Among countries with the most ICOs per 1M people, Switzerland ranks with 21 ICOs as 4th in the world, following Estonia, Singapore and Cyprus. Switzerland’s “Crypto Valley“ is a cluster of companies and foundations focused on development of blockchain ecosystems and supported by Swiss government. Swiss policymakers also pledged to liberalise banking access and allow cryptocurrency industry to have full access to conventional banking systems by the end of the year 2018. Swiss Financial Market Supervisory Authority (FINMA) has taken an official stance on ICOs in spring 2018 by publishing ICO Guidelines qualifying tokens into 4 categories:

1. Payment Token

2. Utility Token

3. Asset Token — only them are treated as securities.

4. Hybrid Tokens

Also, Swiss tax laws are favourable for both ICO investors and issuers.

Estonia

Friendly business environment combined with almost no regulations on ICOs, cheap electricity and low taxes have attracted many blockchain investors and issuers to Estonia.

Neither cryptocurrency nor ICO investments are no subject to VAT and income tax burden is very light, which makes the country one of the best location to launch an ICO. The Estonian Financial Supervisory Authority (EFSA) stated that every ICO is unique and should be assessed on its own characteristics, i.e. if tokens have the characteristics of securities, then they should be governed by the rules of public offerings.

Estonia has been using a blockchain-like technology called KSI Blockchain since 2012. This distributed public ledger is deployed in Estonian government networks to protect e-services such as its e-Health Record system, e-Law systems, e-Police data, e-Banking, e-Business Registers and more. This technology is used today by organizations like NATO and US Department of Defence.

The openness of the market and government towards digital innovations including cryptocurrencies makes Estonia more favourable environment to smoothly run a crypto-business.

Malta

Malta’s overall approach is to make the country one of the most desirable locations for conducting a blockchain-related business, while making sure to implement a high level of EU legal principles into their approaches and laws. Its crypto laws are built on 3 basic principles: market integrity, consumer protection and industry protection.

In June 2018, three important acts creating first regulatory framework for blockchain, cryptocurrency and DLT were enacted by the government:

1. MDIA Act (Malta Digital Innovation Authority Act) — Establishes “the Authority“ and will focus on internal governance arrangements

2. ITAS Act (Innovative Technology Arrangement and Services Act) — Assigns certifications of DLT platforms, i.e. setting up exchanges and other companies operating in cryptocurrency markets

3. VFA Act (Virtual Financial Assets Act) — Regulatory regime governing ICOs and exchanges

Finland

An e-government blockchain pilot project is used by employment offices and other related parties to manage employment in local communities. Also, the Central Union of Agricultural Producers and Forest Owners (MTK) is the first Finish government organisation to use this technology. The Finnish government is also planning a second blockchain pilot project focused on smart logistics.

United Kingdom

London Stock Exchange should allegedly offer security tokens in the future and the UK could become a crypto/security token friendly jurisdiction. Financial Conduct Authority (FCA), the UK’s financial regulator, has not released any official legislation when it comes to the use of blockchain technology. Back in April 2017, the FCA solicited responses from key stakeholders — on ‘the potential of future development of the technology’. The general consensus was that the FCA maintains its ‘technology-neutral’ approach towards blockchain regulatory issues.

France

French lawmakers have passed a law setting out guidelines for initial coin offerings (ICOs). The legislation enables the French financial regulator — Authorité des Marchés Financiers (AMF) to approve and issue permits to businesses intending to float ICOs in France — but only if “those projects provide specific guarantees for investors.” Issuers will be expected to give full disclosure to the AMF, allowing buyers to make informed decisions about ICOs. This establishes a framework which provides a definition of tokens, indicating that a token is intangible property representing, in numerical form, one or more rights that can be issued, registered, conserved or transferred using a shared electronic registration mechanism that facilitates the identification, directly or indirectly, of the owner of said property.

Germany

On September 25, 2018, the 4th Criminal Division of Berlin Court of Appeal ruled that Bitcoin trading without a proper license is not punishable as Bitcoins are not a financial instrument within the meaning of the German Banking Act. Bitcoin trading and operating a corresponding trading platform is therefore not subject to the BaFin obligation to obtain permits under Section 32(1) sentence 1 of the Banking Act. This means that “traditional” (payment) cryptocurrencies are not financial instruments according the German law (Banking Act).


Special thanks to Oldrich Peslar, our Legal Counsel, and Viktor Fischer, our Managing Partner, who provided invaluable input and expertise.

Rockaway Blockchain

Insights from the Rockaway Team

Matus Steis

Written by

Venture Capitalist at Rockaway | Interested in Intersection of Finance & Tech | Oxford & Peking Uni

Rockaway Blockchain

Insights from the Rockaway Team

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