As we have discussed previously (see ”First Reminder: Two Months Until New UK Crypto Marketing Rules Take Effect”), starting 8 October 2023, anyone — including a crypto issuer or business based outside the UK — who makes a cryptoasset or service available to an investor or user in the UK will need to consider the UK financial promotion restriction (or “Restriction”) and associated rules, any breach of which is a criminal offense.
On 7 September 2023, the UK Financial Conduct Authority (FCA), charged with policing the regime, also set out its expectations for compliance with the new rules and its feedback on good and poor practice. It also stated that it will consider giving FCA registered and authorised firms until 8 January 2024 to comply with some rules (noted below) where the firm applies to the FCA for permission to do so.
The following FCA statement is noteworthy: “We are concerned by the failure of many overseas and unregulated crypto firms to engage with us on the new rules. Come 8 October, we will be taking action against firms illegally marketing to UK consumers.”
This Q&A is a further reminder of the scope, content, and limitations of the new regime.
What Does the Restriction Mean?
The Restriction holds that anyone who communicates an invitation or inducement to engage in investment activity, further defined by reference to “controlled investments” and “controlled activities,” must be authorized by the FCA; alternatively, an FCA-authorized firm must approve the communication. Breach of the Restriction may result in a criminal penalty, fine, or both, and agreements that result from the communication are voidable. The Restriction is subject to certain exclusions, as noted below.
Does the Restriction Apply to Communications Made by Non-UK Businesses, Including Those Based in the US?
Yes. The Restriction applies to any promotion that “is capable of having an effect in the UK.” This includes any communication, including a website or app, that a person in the UK can access, regardless of where the website or app is hosted.
The FCA feedback on good and poor practice (discussed further in ”Firms’ preparations to comply with the cryptoasset financial promotions regime – feedback on good and poor practice”) deals specifically with the territorial scope of the Restriction: “Financial promotions do not need to be specifically directed at UK consumers to be capable of having effect in the UK. If a UK consumer can access and respond to cryptoasset promotions to engage in the cryptoasset activities, such as through websites, apps and/or social media, it is likely that those promotions will be capable of having an effect in the UK. This applies regardless of the location of the firm making the promotion or who it was primarily aimed at.”
Which Cryptoassets Are Subject to the Restriction?
The Restriction already applies to cryptoassets that have the characteristics of a share, bond, or other regulated investment (or “security token”). Via an extension to Financial Promotion Order (FPO), the Restriction will apply to any “qualifying cryptoasset” (QCA), which the FPO adds to the list of controlled investments.
Using the general UK legislative definition of a cryptoasset as a starting point, a QCA is “any cryptographically secured digital representation of value or contractual rights that (a) can be transferred, stored or traded electronically, and (b) that uses technology supporting the recording or storage of data (which may include distributed ledger technology).”
The FPO narrows this by defining QCAs that are excluded from the Restriction:
- Nonfungible tokens
- Electronic money
- Fiat currency, including digitally issued fiat currency
- Cryptoassets that can be transferred or sold only by way of redemption with the issuer and the use of which is limited to acquiring goods and services in three specific instances (or “FPO utility tokens)
The definition also excludes security tokens because these are already subject to the Restriction.
Are Utility Tokens Excluded from the Restriction?
As noted above, FPO utility tokens are excluded from the Restriction. The definition of an FPO utility token is narrower than the definition of a utility token in the FCA guidance on cryptoassets (or “FCA utility token”), which did not recognize a restriction on secondary market trading. Therefore, unless an FCA utility token has the characteristics of an FPO utility token, it will fall within the QCA definition and be subject to the restriction.
What Cryptoasset Services Are Subject to the Restriction?
Activities such as:
- Making arrangements with a view to deals in QCAs, which could include app providers depending on the app’s functionality
- Arranging deals or dealing as agent in QCAs, which could include the activities of crypto exchanges, depending on their business models
- Dealing as principal in QCAs, which would include issuing a QCA, because the exclusion for issuing one’s own securities in the FPO has not been extended to QCAs
Are There Exclusions from the Restriction?
Yes. Two types of exclusions will take promotions of QCAs or relevant controlled activities outside the scope of the Restriction:
- QCA-specific exemptions
- General exemptions applying to all controlled investments
The QCA-specific exclusion is for QCA promotions that are communicated by or on behalf of an FCA-registered cryptoasset exchange or custodian (or “FCA crypto businesses”). This exclusion has the effect that FCA crypto businesses, which are not FCA-authorized firms for the purposes of the Restriction, can communicate and approve promotions about their own businesses.
The general exemptions include financial promotions directed at investment professionals, certified sophisticated investors, and high-net-worth corporations and associations. Subject to requirements on disclaimers and similar language to be contained in promotions, this should allow QCA issuers and intermediaries to offer QCAs and allow QCA service providers to offer those services to institutional investors or users.
What Limitations Are There on the Types of Investors With Which an FCA-Authorized Firm Communicates or for Which a Firm Approves a Promotion in Compliance With the Restriction?
The FCA rules governing the promotion of QCAs limit direct-offer financial promotions — i.e., those that contain an offer to which the investor can respond — to persons certified as one of the following:
- A high-net-worth investor, requiring a net annual income of £100,000 or net assets of £250,000 or greater
- A sophisticated investor, which includes various tests different from those for a certified sophisticated investor under the FPO
- A restricted investor, the residual category, requiring the investor to adhere to a limit of 10% net assets in making the investment in a QCA
What Requirements Are Imposed on a Promotion With Which an FCA-authorized Firm Communicates or That Approves Said Promotion in Compliance With the Restriction?
The FCA rules governing the promotion of QCAs impose requirements with respect to:
- A 24-hour “cooling off” period between the time investors receive the promotion and when they can act on it
- Appropriateness tests
- Clear risk warnings using prescribed wording
- Risk summaries specific to the QCAs in question
- Incentives to invest in QCAs
As noted above, FCA authorized and registered firms will be able to apply to the FCA for a “modification by consent. If their application is successful, they will have until 8 January 2024 to implement the 24-hour cooling period and appropriateness testing, together with other rules on client categorisation.
To discuss the contents of this alert, please contact the authors or your usual Goodwin contact.