Digital Assets: Are they reflected in current Swiss laws and regulations?
Dr. Martin Hess, Attorney at law
Tailor-made laws and regulations?
• No tailor-made laws specially drafted for distributed ledgers or for assets built on this technology
• Existing rules are applied to new technologies
• Broad room for interpretation, no precedents by courts/no case law so far, dissenting opinions in legal teaching
• Few tailor-made provisions
� Guidelines for initial coin offerings (ICO) by Swiss Financial Market Supervisory Authority (FINMA)
� Amendment of the Banking Ordinance for FinTech companies by Swiss Federal Government
• Reports by Federal Government (2014 and expected for end of 2018, consulting interested parties from 31 August until 20 September 2018) as means of interpretation
Existing laws
32 September 2018
Overview
42 September 2018
• Federal laws
� Banking Act
� Stock Exchange Act
� Collective Investment Scheme Act
� Financial Market Infrastructure Act (FMIA)
� Anti Money Laundering Act (AMLA)
� Federal Intermediated Securities Act (FISA)
� Civil Code/Code of Obligations and Civil Procedural Code
� Criminal Code and Criminal Procedure Code
• Cantonal law
� Taxation on Cantonal and Local level
Banking Act: What is Banking Activity?
52 September 2018
• Banking activity is defined as accepting deposits from the public on a commercial basis
• Duty to reimburse the investors (repayment obligation)
� Bond issues do not qualify as deposits if a proper prospectus is published
� Capital contributions (equity) to a company do not lead to a repayment obligation
• Acting on a commercial basis
� Deposits of more than 20 investors
� Publicly advertising the willingness to accept funds to a non-limited number of persons
• All deposits are deposits from the public by default
� Exemptions are defined in the Banking Ordinance
Banking Act: The example of ICO
62 September 2018
• Promise to the token holders of reimbursing the token price (e.g.future profits, buy back of tokens) = repayment duty?
• ICOs are always using the internet to publish their whitepaper and mark their presence
� This is considered public advertising and acting in commercial capacity
• Various ICOs use third parties for marketing and sales
� For the company performing the ICO, this may constitute improper advertising
� For the third party involved, an unauthorized distribution or underwriting activity
• The Enforcement Department of FINMA might intervene and request information, start official inquiry procedures which might ultimately lead to the liquidation of the ICO provider
Oversight of Swiss FinTech Regulations
72 September 2018
Compliance with AML requirements for all categories
Specific adjustments to the
regulations
Innovation area New license category "bank license
light“, as of 1 January 2019
Extension and statutory definition
of the holding period for funds in
settlement (pass through)
accounts to 60 days
• Maximum of CHF 1 million in public deposits from an unlimited number of
persons
• No investment activity / no payment of interest, if primarily active in the financial
sector
• Duty to inform about the absence of deposit protection / no supervision by
the FINMA
• Maximum of CHF 100 million in public deposits from an unlimited number of persons
• No investment activity / no payment of interest
• Duty to inform about the absence of deposit protection
� no license � no license � license, but: lower requirements than for full banking activity, e.g.,
minimum capital of CHF 300’000 or
5% of the deposits accepted,
maximum 5’000’000 CHF
Swiss approach: No special legislation for a new category of financial institutions, but carving out from the requirements for fully fledged banks
Criteria for Collective Investment Scheme
82 September 2018
• Pool of assets raised from at least two investors independent of each other as a result of public advertising
• For the purpose of collective investment
• Assets are managed by the fund management company for the account of the investors, i.e. any profits come from the efforts of a third party and not from the contribution of the investors
• Investment needs of the investors are met on an equal basis
Collective Investment Scheme: Example
92 September 2018
• SwissRealCoin is designed as a security token linked to a portfolio of Swiss commercial real estate
� The issuing company invests in Swiss commercial real estate = investment done by the Fund Manager
� The investors get a token, the token value is linked to a portfolio of Swiss commercial real estate
� No redemption, only liquidation of the real estate portfolio
� Tokens should be traded on selected crypto exchanges = secondary market (ETF?)
• FINMA expressed concerns whether this is not a collective investment scheme
• Prepaid investments were reimbursed, the ICO of the SwissRealCoin is postponed, the structure will be changed to a collective investment scheme
102 September 2018
• Securities: standardised certificated and uncertificated securities, derivatives and intermediated securities, which are suitable for mass trading
• Suitability for mass trading means that the securities are:
� publicly offered for sale in the same structure and denomination, or
� are placed with more than 20 clients
� insofar as they have not been created especially for individual counterparties (e.g. OTC derivatives)
• Securities dealers:
� own-account dealers
� issuing houses (underwriters)
� derivative house
� market makers
� client traders (brokers)
Stock Exchange Act (SESTA)
Examples
112 September 2018
• Self-issuing of tokens (book-entry securities) does not require a FINMA license (but prospectus obligation)
• Public offering of securities to third parties does not require a FINMA license (but prospectus obligation)
• Creation and issuance of derivative products to the public on the primary market is regulated (license as derivative house)
• Underwriting and offering tokens issued by third parties publicly on the primary market conducted in a professionnal capacity, is a licensed activity. ICO Accelerators?!
Financial Market Infrastructure Act (FMIA)
122 September 2018
• Subject to a license as financial market infrastructure are trading venues, i.e.:
� Stock Exchanges
� Multilateral Trading Facilities
� Organised Trading Facilities
• Only securities as defined above can be traded on these trading venues
� Tradable are non-native tokens qualifiying as uncertifcated securities or as derivatives
� Native Tokens such as cryptocurrencies (e.g. BTC, ETH) are not covered by the FMIA; only derivatives on BTC and ETH can be traded on licensed trading venues in accordance with the FMIA
Crypto Exchanges
132 September 2018
For a crypto exchange for Native Tokens (e.g. BTC / ETH) only, two aspects are important:
• Full compliance with Swiss AML regulations
• Is the exchange providing only matching or also accounts for
users?
• Keeping accounts means taking deposits from the public; a
banking license is needed if the crypto exchange
� offers accounts to its customers, and
� does not keep them in a way that private keys can be segregated in case of insolvency of the exchange (see below, Custody)
As of 1 January 2019 Banking License Light up to CHF 1 Mio might help
Custody – FINMA approach
152 September 2018
Based on considerations in line with bankruptcy law FINMA has developed the following approach:
• If the funds of the investors are all held in one wallet (pooling, similar to an "omnibus customer account" structure), then the investor cannot segregate its assets in case of insolvency of the service provider
� banking licence needed
• The funds of the investor can be segregated from the bankruptcy estate of the provider if the private keys are allocated to separate wallets for each investor/client held by the provider (similar to "individual customer account" structure)
� no licence needed
• Technical criteria are decisive in order to decide whether segregation is possible in case of bankruptcy or not
Anti Money Laundering
162 September 2018
Anti Money Laundering Law (AMLA)
172 September 2018
• The AMLA applies to regulated entities (banks, securities trader etc.) and to financial intermediaries; financial intermediaries are persons who:
� on a professional basis accept or hold on deposit assets belonging to others or
� assist in the investment or transfer of such assets
• Financial intermediaries must:
� become a member of a self-regulatory organisation (VQF in Zug)
� comply with KYC including duty to know the beneficial owner's identity
� comply with the diligence requirements, i.e.
– duty to keep records,
– clarification of the economic background and purpose of a transaction if it appears unusual,
– investigate and report suspicious transactions
FINMA Circular 2016/07
182 September 2018
• The requirements for the fulfillment of the KYC obligations under the AMLA have been adjusted to be on a par with in-person identification in the FINMA Circular 2016/07 “Video and Online Identificationâ€
• Technical means are used to replace physical presence
• The KYC obligations can be fulfilled through:
� a video communication, or
� by means of online identification (e-mail submission of documents) confirmed by a bank transfer from a reputed bank
• Operationally cumbersome in practice
Initial Coin Offerings
192 September 2018
FINMA Guidelines for enquiries regarding the regulatory framework for initial coin offerings (ICOs) of 16 February 2018
https://www.finma.ch/en/news/2018/02/20180216-mm-ico-wegleitung/
Structuring of Tokens according to FINMA
202 September 2018
Payment Tokens Utility Tokens Asset Tokens
Bitcoin, Ether Digital Access to services / application
Equity / Debt Coins
> Not securities
> Not banking activity
> Means of payment under the Anti-Money Laundering Act (AMLA)
> Not securities (unless investment function)
> Not banking activity
> Not means of payment, if:
• the payment function is only accessory, and
• the blockchain is not utilized for financial sector purposes
> Securities (prospectus requirement)
> Not banking activity
> Not means of payment
> Full AML, KYC / now, also affiliation with a self-regulatory organization (SRO)!
> Not subject to the AMLA > Not subject to the AMLA
� FINMA does not prohibit ICOs, but lays down requirements
• Tokens are not standard products – each ICO is a special case and requires a separate assessment
• Time for preparation of an ICO: at least 2 - 4 months
Category of Payment Tokens
212 September 2018
«Means of payment» function if the token:
• Can be used to purchase goods or services; and
• Serves to transfer money and value on the blockchain.
• Does not give claims against the issuer
Examples: virtual currencies such as BTC and ETH
Classification under Swiss law
222 September 2018
� Subject to AMLA
Intake of funds by the issuer itself
SRO affiliation or directly FINMA
subordinated financial intermediary
Due diligence obligations: - Full KYC - Establshing identity of the
beneficial owner (BO) - Organisational measures - Record retention and
documentation obligation - etc.
Intake of funds by a financial intermediary that is subject to the AMLA in Switzerland
Neither SRO affiliation nor directly
FINMA subordinated financial
intermediary necessary
Due diligence obligations: - Full KYC - Establishing identity of the BO - Organisational measures - Record retention and
documentation obligation - etc.
Category of Utility Tokens
232 September 2018
The token confers:
• The right to use
• The right to access
• The right of participation in
… a platform based on the blockchain and its functionalities/applications (decentralised application)
Category of Utility Token – Swiss law
242 September 2018
• Not a securities if:
� Sole purpose is to confer a right to access/use/participation in a blockchain platform or DApp
� Can be used in this way and functions at the time of the ICO (i.e., if the token has no investment function)
� No prospectus requirement
• Not subject to the AMLA if:
� The main purpose is the use of a digital service outside of the financial sector, and
� Payment function is only an accessory/subordinate service
Accessory Service
252 September 2018
• Requirements (on a cumulative basis):
� The accessory service is integrated into the contractual relationship for the primary service (which must be unrelated to the financial sector)
� Same Provider: The contracting party who provides the primary service also provides the accessory service
� The accessory service is of subordinate importance to the primary service (no additional income generated by the accessory service)
� The provision of the main service is closely connected to the accessory service (i.e. the payment aspect of the token)
Examples: GAS, Mining Fees ???
Category of Asset Tokens
262 September 2018
If token confers the following rights:
• Rights to participate in profit or revenues (e.g., digital participation certificate, dividend entitlement)
• Membership rights under company law, such as voting rights
• Derivative rights (financial contracts whose value depends on one or several underlying assets and which are not cash transactions, e.g. forward: claim to delivery in the future of currencies / securities / commodities)
Classification Asset Tokens – Swiss law
272 September 2018
= Securities under Art. 2(b) of the FMIA
Derivative or uncertificated security
• Standardised and • Suitable for mass trading (more than
20 investors)
� Prospectus requirement
� Obligation to obtain license as a securities dealer if derivatives are self- created and publicly offered on the primary market for the own account or for the account of a third party
� No prospectus requirement
� No licensing obligation
≠Securities under Art. 2(b) of the FMIA
Derivative or uncertificated security
• Limited or closed target audience (FFFs or less than 20 investors)
• Cannot be traded or transferred
282 September 2018
For Hybrid Tokens all requirements of the respective token class apply jointly
• Utility Token � Payment Token
� Subject to the AMLA, unless the payment aspect is only accessory/subordinate
• Asset Token � Payment Token
� Subject to the AMLA, unless the payment aspect is only accessory/subordinate
� Prospectus obligation, unless token cannot be traded / transferred and is only offered to a limited target audience
• Utility Token � Asset Token
� Prospectus requirement, unless token cannot be traded / transferred and is only
offered to a limited target audience
Hybrid Token
Classification in Pre-Sale/Pre-Functional
292 September 2018
Pre-Financing Pre-Sale
(Voucher
Token)
Pre-Functional
Sale of tokens that are not yet in existence
Sale of tokens that confer an entitle- ment to real tokens in con- nection with ICO
Sale of tokens that are not yet able to function / be uti- lized due to lack of platform
Uncertifcated security (or possi- bly Forward / Derivative?)
Derivative
= Security
Uncertificated Security (or possi- bly Forward / Derivative?)
ICO/TGE
Sale of fully functioning tokens
Classification under FINMA Guidance for ICOs (cf. further above)
⇒Prospectus requirement only if issued on standardised basis (to more than 20 investors) and suitable for mass trading. Recommendation: preclude assignment/trading!
⇒Potentially subject to licensing obligation as dealer in derivatives
=> Not subject to the AMLA because no payment token exists yet at this stage
=> Subject to the AMLA if payment token
Secondary
Market
Professional currency exchange (crypto vs Fiat) or transfer of money (if the service provider manages the private key)
= Payment Token
⇒ Subject to the AMLA
Civil Law aspects
302 September 2018
Legal nature of tokens
312 September 2018
• The term “token" is used for any type of asset recorded on a distributed ledger, irrespective of the underlying distributed ledger and content and comprises
� native digital coins (exist only on the DLT such as BTC and ETH) or
� non-native digital-linked assets (asset tokens, payment tokens)
• Tokens are digital units containing information, i.e.data.
• Some Swiss lawyers tried to characterise tokens as goods, in order to apply the regulations for physical goods. The majority of legal teaching is not of this opinion.
• Tokens can be characterised as uncertificated securities, derivatives, or even as commercial securities depending on the individual token
Problem of legal form of token transfer
322 September 2018
• Claims: assignment needs signature (Art. 164 et seq. CO)
� Digital written form possible (qualified electronic signature under Art. 14 para. 2bis CO)
� «Genussrecht» unter German law does not require a specific form for the transfer of the right
• Goods/objects (right in rem): transfer of possession (Art. 922 et seq. SCC)
� In principle not possible in digital form, only physical
• Intermediated securities: (Federal Intermediated Securities Act, FISA), Necessity of a regulated custodian
� instruction to a regulated custodian and
� credit entry in the books of regulated custodian
© Martin Hess, Wenger & Vieli AG 33
Issuer
issue of securities
securities in
physical form global certificates
dematerialized securities
Book on the
dematerialized securities
giving in deposit giving in deposit registration in the
main register
credit entry credit entry credit entry
securities account
Investor A
securities account
Investor B securities account
Investor C
depository
Federal Intermediated Securites Act
Intermediary held securities
342 September 2018
• Book on dematerialised securities and main register of the depository: on the distributed ledger
• Instruction as basis of the disposition, can be done electronically
• Perfection of disposition by
� Credit entry into the securities account of the transferee / of the security taker with a custodian
� Credit entry is a simple booking in a database
• Creation of intermediary held securities and all dispositions can be made on a distributed ledger
• The FISA is only applicable if the custodian is a regulated depository such as bank, securities trader, fund managers
Forms of transfer of tokens: options
352 September 2018
Proposed Solutions
Contract between all
participants of the DLT
multi-party transaction
Everyone participating in a DLT accepts the rules
of the DLT. No relevance
of assignment, given that the distributed consens
matters
Extensive interpretation
contrary to the wording of securities law in order
that a token is deemed to
be a security
Interpretation of data as
goods (right in rem)
Legislation
Explicit classification of
tokens as securities
under the Code of
Obligations (see proposal for Art. 973d CO)
High level overview – each case different
372 September 2018
• No specially drafted tax regime for tokens exist
• Payment and Asset Tokens are not subject to VAT given that they are treated as foreign currency respectively as securities (which both are exempt from VAT), only Utility Tokens are subject to VAT.
• Generally, a company is taxable on its profit and net equity. The basis for the calculation of taxable income is the profit and loss statement, to which certain adjustments may be made (e.g., for losses carried forward).
• ICO proceeds count as profit, but are mostly netted against provisions made for future development/services.
392 September 2018
• No special regulations for the digital world so far.
• Interpretation of existing laws by authorities is pragmatic and attractive for digital industry; prohibition of tokens is unlikely. But there is no carte blanche.
• Understanding of DLT technology etc. takes time, legal assessment is not consistent so far.
• No legal certainty as long as Switzerland does not have
� specific laws
� court precedents
• Report by the Federal Government announced for the end of 2018 might bring more legal certainty
• Cantonal initiatives to foster the digital world in ZG, ZH, GE
Dufourstrasse 56, P.O. Box, CH-8034 Zurich
T +41 (0)58 958 58 58, www.wengervieli.ch
Many thanks!
