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Are all Crypto-Assets Cryptocurrency? Lessons for and from issuers and owners

Are all Crypto-Assets Cryptocurrency? Lessons for and from issuers and owners
  • United Kingdom
  • Financial services and markets regulation
  • Fraud and financial crime
  • Financial institutions
  • Financial institutions - Digital Financial Services


What do companies looking to generate value via crypto-assets, including the issuance of cryptocurrency, do about opening bank accounts? The FCA acknowledged this difficulty in its Regulatory Sandbox “lessons learned” report, casting the problem beyond crypo-asset holders to FinTech companies more generally noting that the denial of bank accounts created barriers to entry and had a chilling effect on competition. Against this, the FCA’s “Integrity” statutory objective, which includes the prevention of financial crime, requires the FCA to address the perceived greater AML / KYC risk for banks in accepting blockchain and cryptocurrency based businesses. The FCA’s Regulatory Sandbox Lessons Learned Report, can be found here.

The FCA’s letter

Against this background, the FCA recently published a "Dear CEO" letter to banks on how to handle the financial crime risks posed by crypto-assets. The letter refers to “crypto-assets”, defining these as “any publicly available electronic medium of exchange that features a distributed ledger and a decentralised system for exchanging value”. The FCA acknowledges that there are legitimate reasons for businesses using crypto-assets, and that banks should take “reasonable and proportionate measures to lessen the risk of … facilitating financial crimes”.

The letter can be found here.

It is clear, therefore, that the FCA is not directing banks to avoid crypto-assets. Instead, it emphasises a proper understanding of the nature of these assets and the risks involved, ensuring proper oversight of this type of activity, and on ensuring that existing AML and KYC requirements are met, for example as regards source of wealth.

The emphasis on the viability of the existing regulatory regime for dealing with the risks posed by crypto-assets is underlined by the fact that, at the end of the letter, the FCA notes that, although there is a heightened risk of retail customers falling victim to investment fraud, the guidance which the FCA points to help deal with this is that published by the FSA in in June 2012.

For further discussion of the position for banks, please see our briefing here.

Responding to the letter

Although there is a risk, when banks receive the "Dear CEO" letter, for them to focus on the fact that it highlights risks when dealing with cryptocurrency, it is important when dealing with banks to help them understand the letter’s purpose. In particular, it is important to recognise the that fact the letter does not state that banks can discharge their AML and KYC responsibilities through a proportionate and considered approach. It is also helpful to educate banks regarding the risks relating the particular activities which you are engaged in, as this assists banks in both being able to take a considered view, as well as assisting banks to be able to show the FCA that they have responded to the letter properly and sought to self-educate regarding crypto-assets.

Explaining your cryptocurrency: a framework

One of the difficulties in explaining cryptocurrency business is the tendency to treat all token types as the same asset, even though different cryptocurrencies perform different functions. To bring clarity to this issue, we have collaborated with Andrew Burnie (PhD student at UCL with the Alan Turing Institute) to examine and develop a functional classification system which divides into three classes.

The functionality of a token can be split into three types:

  1. Crypto-transaction tokens: designed for transacting value; e.g. Bitcoin, these are closest to pure "digital currencies".
  2. Crypto-voucher tokens: that carry the right to a predefined asset; e.g. Filecoin which will carry the right to be exchanged for data storage space and would also include tokens which give rights to transferable securities, such as shares.
  3. Crypto-fuel tokens: designed to enable the creation of blockchain-supported applications; e.g. Ethereum which enables users to write smart contracts which programme a non-human participant to behave in a rule-based way in response to changes in the network.

For more detail, see the Eversheds Sutherland Occasional Paper. This paper formed the basis for the submission to the UK Parliament Digital Currencies inquiry, please click here.

The classification system fits with the “Dear CEO” letter, which addresses cryptocurrencies used to exchange value – i.e. the letter is primarily focussed on crypto-transaction tokens, which may, for example, used for making payments and be similar to payment services, and so, from an AML / KYC perspective, have a similar risk profile.

The classification system also shows the limits of the FCA’s letter: it does not address all crypto-assets. A crypto-voucher, which, gives rights to transferable security, such as a share certificate linked to equity, does not have the same risk profile as crypto-transaction tokens. Instead, the nature of the risks involved depend on the nature of the underlying asset and its link to the token: for example, it would not make any more sense to require full AML / KYC checks to buy and sell token giving rights to data storage space, than it would to require such checks for data storage space in itself.

The tripartite classification system above should, therefore, help issuers and/or holders of crypto-assets interact with banks as it helps a more informed discussion of the relevant crypto-asset, based on its function rather than its name.

About Eversheds Sutherland

After advising on the first successful Initial Coin Offering in the United Kingdom last year, we have become a market leader on advising on cryptocurrencies, advising a range of ICO providers, blockchain technology companies and companies navigating the FCA sandbox.