Introduction to the legal and regulatory frameworki Market size
Switzerland is the home of the crypto valley in Zug, near Zurich, and has an active community of enterprises working in the crypto space. While it is difficult to attribute a rank to Switzerland in the fast-moving global crypto community, Switzerland has taken the role of a pioneer in this area. It is an important jurisdiction for initial coin offerings (ICOs) and securities token offerings (STOs)2 and offers a well-developed infrastructure and a sound legal framework for companies that are active in the crypto space.ii Legal framework
Switzerland has a favourable and attractive legal framework regarding cryptoassets, although it does not have a separate legal framework for them. For cryptocurrencies, the regulatory framework allowing the issuance and trading of these assets has been in place for a few years.
Switzerland has now improved its regulatory framework for tokens representing rights, such as asset tokens and utility tokens representing claims against the issuer or a third party, by adopting the Federal Act on the Adaptation of Federal Law to Developments in Distributed Ledger Technology (the DLT Act), which introduced various amendments to Swiss laws to take account of the potential offered by distributed ledger technology (DLT). Some parts of the legislation came into force in February and the remainder of the new provisions will enter into force in August 2021. In particular, the DLT Act introduced DLT rights as the digital alternative to certificated securities as new class of assets. DLT rights should be exclusively transferable through the blockchain. In addition, a new type of licence category for trading venues where DLT rights could be traded has been introduced into Swiss law. Moreover, additional segregation rights for cryptoassets held in custody by a third party (e.g., by a wallet provider) have been introduced in case of bankruptcy of the third party.
The Swiss Financial Market Supervisory Authority (FINMA) has repeatedly stated that it will not distinguish between different technologies used for the same activity: that is, it will apply the principle of 'same business, same rules' to any kind of new technology. FINMA adheres to this principle at present when applying Swiss financial market laws to cryptoassets and blockchain-based applications and this will also apply going forward with the DLT Act.iii Regulatory classification of tokens
On 16 February 2018, FINMA published guidance on how to apply Swiss financial markets laws in its guidelines regarding the regulatory framework for ICOs (the ICO Guidelines).3 In the ICO Guidelines, FINMA clarifies how to classify cryptocurrencies and other coins or tokens (collectively with cryptocurrencies, tokens) or other assets registered on distributed ledgers under Swiss law.
According to the ICO Guidelines, FINMA distinguishes the following categories of tokens:
- payment tokens or cryptocurrencies, which are intended only as means of payment and that do not give rise to any claims against the issuer;
- utility tokens, which provide rights to access or use a digital application or service, provided that the application or service is already operational at the time of the token sale; and
- asset tokens, which represent an asset, for instance a debt or equity claim against the issuer or a third party, or a right in an underlying asset.
FINMA has further clarified that tokens may also take a hybrid form including elements of more than one of these categories. These hybrid tokens must comply cumulatively with the regulatory requirements applicable to each relevant token category. FINMA acknowledges that a token's classification may change over time. For the purpose of assessing the regulatory implications of an ICO, the moment of the token issuance is relevant. However, the initial classification may change post-ICO. In the event of any secondary market trading activity with tokens, their classification in the moment of the relevant trading activity must be taken into account.
In addition, FINMA published its views on the regulatory classification of stable tokens (i.e., tokens backed by an underlying asset such as a pool of fiat currencies or other assets) in a supplement to the ICO Guidelines dated 11 September 2019. FINMA specified that stable tokens are not considered a separate type of token category under Swiss regulation and that, depending on the rights attached to stable tokens, these would usually classify as asset tokens or as hybrid between payment tokens and asset tokens.
Payment tokens do not qualify as legal tender or other means of payment under Swiss law. However, the Swiss Federal Council has clarified that payment tokens may be used as private means of payment if the parties to a transaction agree on the use of payment tokens as the applicable means of payment for such a transaction. In addition, the issuance of payment tokens requires compliance with the Swiss AML rules (see Section V).iv Enquiries to FINMA
Notwithstanding the guidance provided by FINMA, given that this field is new and the structures of token offerings are always evolving, regarding the application of the ICO Guidelines in real-life projects, it is normal practice to make an enquiry to FINMA seeking confirmation, and to obtain a no-action letter from the regulator, thus providing comfort.
FINMA offers the option to file such 'no-action' enquiries to confirm the regulatory interpretation.
Securities and investment lawsi Relevance for asset tokens and certain types of utility tokens
Swiss securities laws are relevant for the issuance of asset tokens or any hybrid form of tokens involving the functionality of asset tokens (e.g., a stable token or a utility token regarding the use of a platform that is not fully developed).
However, payment tokens and utility tokens that do not represent any claims against an issuer or a third party are not subject to Swiss securities laws, as they do not represent any rights.4 Such payment tokens and utility tokens should be classified as intangible digital assets sui generis for the time being.5ii Issuance of tokens representing rights against an issuer or a third party
The DLT Act introduced DLT rights (DLT Rights) as new class of assets into Article 973d et seq. of the Swiss Code of Obligations (CO) for asset tokens or utility tokens representing any claims against an issuer or third parties. DLT Rights are designed as digital equivalent of certificated securities or uncertificated securities by linking a right to a token instead of a certificated security instrument or a registration in an uncertificated securities register. DLT Rights may not be exercised or transferred outside the relevant distributed ledger. As regards the scope of DLT Rights, any rights that could be issued as certificated or uncertificated securities may be issued as DLT Rights. Therefore, they may be used to represent fungible contractual claims (e.g., debt obligations), non-fungible contractual claims (e.g., claims arising from a licensing agreement), membership rights that can be issued as certificated or uncertificated securities (e.g., shares in stock corporations), and rights in rem that can be issued as certificated or uncertificated securities (e.g., mortgage certificates). However, cryptocurrencies or the possession or factual control of assets could not be issued as DLT Rights.
According to the DLT Act, the issuance of DLT Rights requires the registration of a right on a distributed ledger on the basis of an agreement between the issuer and the first holder stipulating the registration of the relevant rights on a distributed ledger and the undertaking that such rights may only be transferred and exercised on the relevant distributed ledger. In addition, it is advisable that the parties specify explicitly their intention in the terms of the DLT Rights to create DLT Rights and that Swiss law shall be the applicable law. Without such a choice of law, the Swiss Private International Law Act as amended by the DLT Act stipulates that the laws of the place of incorporation or residence of the issuer, subject to special rules for rights in rem, apply.
Moreover, the DLT Act specifies certain characteristics that have to be met by the distributed ledger on which a DLT Right is issued. Such a distributed ledger must provide the right to dispose over the DLT Rights only to the holders of the DLT Rights (and not the debtor), protect its integrity through appropriate technical and organisational measures against unauthorised access and changes, record or make accessible through the distributed ledger its terms of operations and the terms of the relevant DLT Rights, and ensure that the register entries on the distributed ledger are visible to the public. However, the DLT Act does not define any technical requirements, for example, regarding the minimum number of participants in the ledger or the applied consensus mechanism.
Finally, DLT Rights may be used as underlyings for the creation of book-entry securities pursuant to the Swiss Federal Act on Intermediated Securities (FISA) by transferring them to a custodian within the meaning of the FISA and by that custodian crediting the DLT Right to one or more securities accounts. The custodian has to immobilise the DLT Rights, which may only be transferred in accordance with the FISA once they are held as book-entry securities.iii Transfer requirements for tokens
Under Swiss law, payment tokens and utility tokens that do not represent any claims against an issuer or third parties can be validly created and transferred in accordance with the terms of the respective distributed ledger. A transfer can therefore be validly made by executing a transaction between two wallets.
Asset tokens or utility tokens representing any claims against an issuer or third parties that are issued as DLT Rights, on the other hand, can only be transferred in accordance with the rules of the relevant distributed ledger. It is no longer relevant how the relevant rights represented in the DLT Right would be transferred without the digital representation in a DLT Right, as it is the case for any asset tokens or utility tokens representing any claims against an issuer or third parties that are not issued as DLT Rights. The DLT Act provides for a rule on the finality of such transfers even if the transferor falls into insolvency. Holders of DLT Rights will also benefit from bona fide protection rights similar to holders of paper-form security certificates in case they have acquired DLT Rights from an unauthorised seller.iv Classification of tokens as securities
According to Article 2(b) of the Financial Market Infrastructure Act (FMIA), securities are certificated or uncertificated securities, derivatives, intermediated securities or DLT Rights, which are standardised and suitable for mass trading. According to Article 2(1) of the Financial Market Infrastructure Ordinance, 'standardised and suitable for mass training' means, in this context, that the instruments are offered for sale publicly in the same structure and denomination, or that they are placed with 20 or more clients under identical conditions.
FINMA has clarified in the ICO Guidelines that it will apply these rules in connection with tokens as follows:6
- Payment tokens do not qualify as securities given that they are designed to be used as means of payment according to FINMA. Payment tokens cannot fall under the definition of securities as they do not represent any rights that are exercisable against the issuer or third parties.
- Utility tokens can qualify as securities if the platform where they can be used is not operationally ready at the time of the token sale, or if the tokens represent rights that may be enforced against the issuer or a third party. These utility tokens are deemed to have an investment purpose. FINMA further clarified that a case-by-case analysis is needed to clarify whether or not a utility token can be used for its intended purpose. In particular, it specifies that proof of concepts or beta versions of platforms or applications on which the utility tokens cannot (yet) be used would not suffice to fall outside the definition of securities for the purposes of the FMIA. However, on the basis that the qualification of tokens may change over time, it is possible that utility tokens qualifying as securities will fall outside this definition once the platform where the tokens shall be used becomes fully functional for its intended purpose.
- Asset tokens qualify as securities provided that they have been offered publicly or to 20 or more persons for sale.
FINMA has stated that any enforceable rights of investors to receive or acquire tokens in the future resulting from a presale, for instance under a simple agreement for future tokens, qualify as securities if the rights have been offered publicly or on identical terms to more than 20 persons. On the other hand, the rights issued in the context of a presale do not constitute securities if the terms used in the presale are not standardised or different terms are used with each investor: for example, by varying the amount of rights, the pricing or any lock-up provision.v Prospectus requirement
Regardless of the classification of tokens as securities, in respect of any tokens constituting a digital representation of rights that are exercisable against an issuer, the question arises of whether the tokens are subject to a prospectus requirement under the Swiss Financial Services Act (FinSA). Under the FinSA, a prospectus requirement applies, generally speaking, for all public offerings of securities, including tokens qualifying as securities (see Section II.iv).
In addition, as regards financial instruments offered to retail investors, the FinSA introduced an obligation to prepare a key investor document as an additional disclosure document in a similar way as currently applicable in the European Union pursuant to the Packaged Retail and Insurance-based Investment Products Regulation. This new obligation also applies to certain types of tokens qualifying as financial instruments (e.g., asset tokens with the economics of a structured product or a derivative).vi Regulatory implications of classification of tokens as securities
If tokens qualify as securities, they are subject to the regulatory framework of the FinSA and the Financial Institutions Act (FinIA). According to this regulatory framework, a licence as a securities firm is required for any brokerage activities on behalf of clients (other than institutional clients) regarding such tokens and any market-making activities regarding such tokens.7 Furthermore, underwriting such tokens and issuing tokens that qualify as derivatives are subject to a licence requirement as a securities firm or bank, if these activities are conducted on a professional basis.8 A licence requirement is triggered in each case if these activities are executed on a professional basis.
Moreover, the qualification of tokens as securities has implications for the licence requirements under the FMIA for any secondary trading platform where such tokens can be traded.vii Laws on collective investments
As regards any investments in tokens through collective investment schemes or funds or in regard to the issuance of tokens representing units in collective investment schemes, the rules of the Swiss Collective Investment Schemes Act (CISA) and its implementing ordinances must be taken into account. For the purposes of the CISA, a collective investment scheme is a pool of assets raised from investors for the purpose of being invested collectively managed on behalf of the investors. The regulation of the CISA applies irrespective of the legal structure that has been chosen for the collective investment scheme or fund.
As a result, the issuance of tokens, as well as any business activity in relation to tokens (regardless of their classification) by which assets accepted from clients for investment purposes are pooled (i.e., there is no segregation of the investments for each investors), or where the clients' assets are managed by a third party on behalf of those clients, could be subject to the requirements of the CISA and the FinIA, and must be analysed from the perspective of the Swiss regulation of collective investment schemes.
Commercial undertakings generally do not fall within the scope of the CISA. However, it is only possible to draw the line between a commercial undertaking and a collective investment scheme on a case-by-case basis.