With the entry into force of the new Financial Promotion Rules (‘FPR’) on the 8th of October 2023, firms marketing crypto-assets to UK consumers will need to toe the line with the newly-introduced requirements, regardless of whether the firm is based overseas or what technology is used to make the promotion. The FPR are mostly based on the Financial Conduct Authority (FCA) Policy Statement PS26/6 dated 8th June 2023, which triggered a four-month transition period that lapsed on the aforementioned effective date.
The main change is the categorisation of crypto-assets as Restricted Mass Market Investments (‘RMMI’), through which associated restrictions on how crypto-assets are to be marketed to UK consumers become applicable, in addition to the overarching requirement that financial promotions must be fair, clear and not misleading. The restrictions proposed include:
- clear risk warnings
- banning incentives to invest
- positive frictions
- client categorisation requirements, and
- appropriateness assessments.
Which crypto-assets are in scope?
It is important to note that the FPR apply to qualifying crypto-assets, which are defined as follows:
any cryptographically secured digital representation of value or contractual rights that is transferable and fungible, but does not include cryptoassets which meet the definition of electronic money or an existing controlled investment.
The FCA’s Glossary of Definitions goes further on to include the following, as the new full definition attributable to qualifying crypto-assets:
(1) Any cryptoasset (other than a cryptoasset falling in (2)) which is:
(a) fungible; and
(2) A cryptoasset does not fall within (1) if it is:
(a) a controlled investment falling within any of paragraphs 12 to 26E or, so far as relevant to any such investment, paragraph 27 of Schedule 1 to the Financial Promotion Order;
(b) electronic money (as defined in regulation 2(1) (Interpretation) of the Electronic Money Regulations);
(c) fiat currency;
(d) fiat currency issued in digital form; or
(e) a cryptoasset that:
(i) cannot be transferred or sold in exchange for money or other cryptoassets, except by way of redemption with the issuer; and
(ii) can only be used in a limited way and meets one of the following conditions:
(1) it allows the holder to acquire goods or services only from the issuer;
(2) it is issued by a professional issuer and allows the holder to acquire goods or services only within a limited network of service providers which have direct commercial agreements with the issuer; or
(3) it may be used only to acquire a very limited range of goods or services.
(3) For the purposes of this definition, a cryptoasset is any cryptographically secured digital representation of value or contractual rights that:
(a) can be transferred, stored or traded electronically; and
(b) uses technology supporting the recording or storage of data(which may include distributed ledger technology).
It is interesting to see that non-fungible tokens appear to be excluded, although there is no formal definition attributed to non-fungible tokens, or the extent to which they may be considered as non-fungible.
Which activities are specifically subject to the FPR?
The following controlled activities, which are traditionally applicable to investments, have been amended to make them applicable mutatis mutandis to crypto-assets:
- dealing in securities and contractually based investments
- arranging deals in investments
- managing investments
- advising on investments
- agreeing to carry on specified kinds of activity
What are the options available to promote crypto-assets in the UK post-8th October?
There will only be 4 legally permissible routes to promote crypto-assets to consumers:
- The promotion is communicated by an authorised person.
- The promotion is made by an unauthorised person but approved by an authorised person, known as an ‘s21 Approver’.
- The promotion is communicated by (or on behalf of) a crypto-asset business registered with the FCA under the MLRs in reliance on the exemption in Article 73ZA of the Financial Promotion Order.
- The promotion is otherwise communicated in compliance with the conditions of an exemption in the Financial Promotion Order.
For these purposes, a firm only authorised under the Electronic Money Regulations, or the Payment Services Regulations is not considered an ‘authorised person’ so cannot communicate or approve financial promotions.
It is also important to note that erstwhile-applicable exemptions relating to high net worth individuals (‘HNWI’) or self-certified sophisticated investors do not apply in the case of crypto-assets promotions, meaning that they do not benefit from certain regulatory exemptions.
What are the main considerations under the new FPR?
Specifically, the new rules are effective vis-à-vis Direct Offer Financial Promotions (DOFPs), which are defined as follows:
a financial promotion that contains:
(a) an offer by the firm or another person to enter into a controlled agreement with any person who responds to the communication; or
(b) an invitation to any person who responds to the communication to make an offer to the firm or another person to enter into a controlled agreement;
and which specifies the manner of response or includes a form by which any response may be made.
By way of clarification, the FCA’s Policy Statement stated that a DOFP is a mechanism by which consumers can respond in order to invest their money. However, an assessment of whether a particular financial promotion constitutes a DOFP will depend on the specific circumstances. As a general rule, anything that promotes an investment and contains a mechanism which enables consumers to place their money in that investment is likely to constitute a DOFP.
There is also the implementation of a 24-hour cooling-off period applicable only to first-time investors with a firm, that kicks off from when the consumers request to view the DOFP. Firms can proceed with other parts of the consumer journey, such as KYC/AML checks, client categorisation and appropriateness assessments, during the 24-hour cooling-off period. Once the 24-hour cooling-off period ends, first-time investors can access/receive the DOFP.
Speaking of client categorisation, clients are to be categorised into the 3 following categories:
- Restricted investor
- High net worth investor
- Certified sophisticated investor
Ordinary retail investors, which are likely to be categorised as restricted investors, must confirm that they will limit their exposure to crypto-asset investments to no more than 10% of their net assets, and that the investment must be considered appropriate for them. The 10% limitation refers to the client’s aggregative investment across all types of RMMIs, and not just crypto-assets.
Investor declarations leading to their categorisation are only valid for 12 months, following which firms need to categorise clients again if they wish to make further direct DOFPs.
Risk warnings must be communicated to recipients of the DOFP, which risk warning by default reads as follows (and can be amended within limits):
Don’t invest unless you’re prepared to lose all the money you invest. This is a high-risk investment and you should not expect to be protected if something goes wrong. Take 2 mins to learn more.
First-time investors with a firm must, over and above, receive a personalised risk warning pop-up before the DOFP is communicated, with the warning template stating the following:
[Client name], this is a high‑risk investment. How would you feel if you lost the money you’re about to invest? Take 2 min to learn more.
In relation to the appropriateness assessments, such must be undertaken before a client’s response to a DOFP is processed by the firm providing the service, and the FCA’s rules allow for information necessary for the conduction of the assessment to be collected before the DOFP is shown. Furthermore, conducting the assessment before showing the DOFP also allows the time taken for the assessment to be counted against the 24-hour cooling-off period.
Given the diverse range of crypto-assets and related crypto-asset models, firms offering a wide range of products will likely need to create additional appropriateness assessments, particularly if the product has distinct risks or unique features. For example, those based on a complex yield model such as lending, borrowing or staking models.
There is also an effective ban on incentives to crypto-asset promotions; these do not include ‘integrated’ incentives within the crypto-assets such as certain rights granted to the holders (for example, governance rights within a DAO), but rather incentives which may influence the decision-making of the customer to invest.
S21 approvers/authorised firms approving financial promotions
As mentioned above, firms mostly have the option of either registration with the FCA under the MLRs, or ‘partner’ with an authorised person/s21 approver. Approved promotions must include the name of the authorised firm approving the promotion, as well as the date of the approval.
The FCA is adamant that approvers play a more active role in ensuring approved promotions remain compliant for the lifetime of the promotion, not just at a single point in time. Inter alia, approver firms would be required to get attestations of ‘no material change’ from their clients/partners with approved promotions every three (3) months, and furthermore, s21 approvers should take reasonable steps to ensure that the relevant processes for appropriateness tests comply with the FCA’s rules for the lifetime of the promotion.
Generally, any authorised person can approve a financial promotion for an unauthorised person if they are satisfied it complies with FCA financial promotion rules, including that it is fair, clear and not misleading. Authorised persons that want to approve crypto-asset financial promotions for unauthorised persons will have to apply at the s21 gateway for permission to do.
The permissible exemptions from the s21 gateway are the following:
- persons providing approvals for group entities or their appointed representatives; and
- authorised persons approving their own promotions for communication by an unauthorised person
Firms registering under the MLRs (‘Registered Persons’)
Crypto-asset exchange providers and custodian wallet providers (collectively referred to as ‘crypto-asset businesses’) seeking to carry on business in the UK must register with the FCA under the MLRs, in reliance on an exemption in article 73ZA of the Financial Promotion Order. Amongst other things, the following requirements must be met by the Registered Persons:
- A ‘bona fide’ UK presence as per Regulation 8 and Regulation 9 of the MLRs
- Crypto-asset businesses and any person who is an officer, manager, or beneficial owner of the business will be subject to the fit and proper requirements under Regulation 58A of the MLRs
Registered Persons are not able to approve a financial promotion, and are likewise not permitted to confirm the compliance of a financial promotion with the applicable legislation.