Most of the changes deriving from the Treasury (‘HMT’) and the FCA consultation exercises on the financial promotions regime have been implemented for conventional investments, though not for cryptoassets. HMT has now clarified the regime that will apply to promotion and advertising of cryptoassets. In this article, our financial regulation partner Tony Watts provides an update on the regulation of crypto advertising and financial promotions.
The Financial Promotion Restriction
Section 21 of the Financial Services and Markets Act 2000 (‘FSMA’) states that any invitation or inducement to engage in investment activity must either be communicated or approved by an FCA-authorised person – or must come within an exception to this rule (the ‘Financial Promotion Restriction’). Breach of the Financial Promotion Restriction is a criminal offence and may make any investment unenforceable.
Financial promotions can take any form, written or oral. They can originate outside the UK but will still be subject to the Financial Promotion Restriction if they have an impact in the UK.
The definition of ‘investment activity’ is wide and does not just apply to activities for which FCA authorisation is required. For example, generally a company does not need to be FCA-authorised to seek investment in its own shares or bonds, but inviting potential investors to subscribe for them may be within the Financial Promotion Restriction. This will apply in a similar way to cryptoassets: while firms may not presently need to be FCA-authorised for many crypto activities, advertising or promotion of them will still be subject to section 21 FSMA.
Some crypto activity is already subject to the Financial Promotion Restriction
Some cryptoassets already fall within one of the definitions of ‘investments’ in FSMA. For example, although they take a tokenised form, some assets already qualify as debt securities, shares, derivatives or units in a collective investment scheme under present FSMA definitions. The new rules will not affect these. The Financial Promotion Restriction will be extended to apply to a much wider range of cryptoassets.
Extension of the Financial Promotion Restriction to a wider range of cryptoassets
HMT proposals are in its Consultation response of January 2022, further updated on 1 February 2023.
HMT intends that the Financial Promotion Restriction will apply to qualifying cryptoassets, i.e. ‘any cryptographically secured digital representation of value or contractual rights which is fungible and transferable’.
This definition will exclude investments to which the Financial Promotion Restriction already applies. It will not apply to e-money, central bank money or to cryptoassets that are only transferable to one or more vendors or merchants in payment for goods and services. It is still a provisional definition and so may be refined further.
The Financial Promotion Restriction will apply to any controlled activity in relation to a qualifying cryptoasset, i.e. dealing in cryptoassets (as principal or agent), arranging, managing or advising in relation to qualifying cryptoassets or agreeing to carry on those activities. These activities will be widely defined (applying, for example, to the issuer of a qualifying cryptoasset in the same way it applies to an issuer of shares or bonds).
How will the Financial Promotion Restriction apply to qualifying cryptoassets?
Section 21 FSMA will be modified slightly in relation to qualifying cryptoassets. There will be four ways in which promotions of them can be communicated:
- They are communicated by a firm that is authorised under FSMA.
- They are approved by a firm authorised under FSMA, i.e. a third-party Approver Firm. As mentioned in our earlier Keynote, Approver Firms will (under other changes being introduced) need a special FSMA permission to authorise third-party financial promotions – most regulated firms will not be able to do this.
- The firm communicating the financial promotion is registered under the Money-Laundering Terrorist Financing and Transfer of Funds (Information on the Payer) Regulations 2017 (‘MLRs’) – broadly cryptoasset exchange and wallet providers. These firms will be able to communicate their own financial promotions but will not be able to approve promotions of third parties.
- The communication falls within one of the exemptions in the FSMA 2000 (Financial Promotion) Order 2005 (‘FPO’). Exemptions for qualifying cryptoassets will, however, be limited. For example, exemptions in the FPO for promotions of unlisted shares or debt securities to self-certified sophisticated or high-net-worth investors will not apply to qualifying cryptoassets. Exemptions that will apply include promotions to investment professionals (such as FCA-authorised firms), to those who receive the promotion outside the UK and to those certified as sophisticated by an FCA-authorised firm (though this last exemption is very seldom used in practice).
Categories 1–3 will be subject to FCA Rules on financial promotions.
Timescales for the changes
When the necessary legislation has been passed, there will be a four-month transition period before full compliance is necessary.
This regime will in effect be temporary. HMT is proposing to introduce a more general regulatory framework applying to qualifying cryptoassets, requiring many firms to be FCA-authorised as well as introducing a regime for regulating market abuse. An inevitable consequence of this is that more firms will be authorised and so be able to communicate their own financial promotions (or become Approver Firms who can approve third-party promotions).
FCA rules applying to cryptoasset promotions
The FCA has not finalised its detailed rules which will apply to promotions of qualifying cryptoassets. It is clear, however, that they will be subject to its regime for higher risk investments.
So far, the FCA has indicated that qualifying cryptoassets promotions will fall into the category of Restricted Mass Market investments – not the more limited category of Non Mass-Market Investments. This will allow promotion to high-net-worth sophisticated investors as well as to ordinary retail investors who confirm that they have not in the preceding 12 months (and will not in the next 12 months) invest more than 10% of their income or net assets in investments in this category. The regime will require an assessment of appropriateness of the investor as well as detailed risk warnings, an initial cooling-off period for new investors and a customer journey complying with other detailed rules.
What does this mean?
The new rules on cryptoasset promotions will involve very significant changes in an area which is at the moment largely unregulated. The FCA monitors financial promotions rigorously, frequently approaching firms it regards as non-compliant. Many firms will need to take detailed legal advice as to how this affects them.
If you have any questions on the changes to the financial promotions regime, please contact Tony Watts.
This article is for general information purposes only and does not constitute legal or professional advice. It should not be used as a substitute for legal advice relating to your particular circumstances. Please note that the law may have changed since the date of this article.