We set out below a summary of relevant considerations when launching an initial coin offering (ICO) through Cyprus. For these purposes we assume the ICO is structured through Cyprus as a Cyprus company. Alternative vehicles may also be appropriate depending on the intended structure of each individual ICO.
Unlike many other popular jurisdictions for ICOs, Cyprus is an EU Member State and as such founders must comply with the panoply of Single Market regulation emanating from the EU. However, since ICOs (at this point in time) are largely unregulated, the benefits of launching in Cyprus can be significant: a European base and central time zone, as well as access to the jurisdiction’s vast array of tax treaties and overwhelming ‘white list’ status among tax authorities globally.
Primary Legal and Regulatory Considerations
The following laws are the most relevant to structuring an ICO through Cyprus:
- Investment Services and Activities and Regulated Markets Law 2007 (IS Law), which implements EU Directive 2004/39/EC on markets in financial instruments.
- Prevention and Suppression of Money Laundering and Terrorist Financing Law 2007 (AML Law), which implements EU Directive 2005/60/EC on the prevention of the use of the financial system for the purpose of money laundering and terrorist financing, also known as the Third Money Laundering Directive (3AMLD).
- Payment Services Law 2009 (PS Law), which implements EU Directive 2007/64/EC on payment services in the internal market (Payment Services Directive).
- Electronic Money Law 2012 (E-Money Law), which implements EU Directive 2009/110/EC on the taking up, pursuit and prudential supervision of the business of electronic money institutions (E-Money Directive).
- Prospectus Law 2005 (Prospectus Law), which implements Directive 2003/71/EC on the prospectus to be published when securities are offered to the public or admitted to trading.
- Alternative Investment Fund Managers Law 2013, which implements Directive 2011/61/EU on alternative investment fund managers (AIFM Law).
- Alternative Investment Funds Law 2014 (AIF Law).
- Foreign Account Tax Compliance Act (FATCA) and the Common Reporting Standard (CRS).
- EU Regulation 910/2014/EU which regulates the use of electronic identification and electronic identification (E-Signature Regulation).
We provide below a short description of the issues which each law seeks to address. The extent to which each such law is relevant to an ICO will depend on the specific terms and structure of the ICO.
Under the IS Law, a person may not carry on or purport to carry on investment services and investment activities on a professional basis unless that person holds a licence granted under the IS Law. The definitions of “investment services” and “investment activities” are set out in the IS Law. “Financial instruments” are defined through a list of instruments common in today’s financial markets, however no specific mention of digital tokens or cryptocurrencies is made. The IS Law contains certain safe harbours which allow the provision of investment services as well as the performance of investment activities without the requirement to hold a licence under certain circumstances.
Each ICO will need to be evaluated on its merits, although it would seem that many ICOs would not be caught within the ambit of the IS Law since they would not amount to financial instruments as defined. However, ICOs which offer tokenised securities may be caught.
The AML Law needs careful consideration with respect to all ICOs launched through Cyprus. The AML Law and directives issued by the relevant supervisory authorities focus primarily on the regulated sector in Cyprus and prescribe certain policies and procedures to be put in place by Cyprus regulated entities with respect to money laundering. Given the general application of the AML Law, we would caution any ICO team against thinking that if their intended ICO falls outside the ambit of the AML Law they need not concern themselves with anti-money laundering issues. Whatever the final determination is, we believe that there are solutions available in the market to mitigate against any person launching the ICO from falling foul of the AML Law.
The AML Law currently implements 3AMLD. 3AMLD has been recently replaced at the EU level by the Fourth Anti-Money Laundering Directive (EU) 2015/849 (4AMLD). This has not yet been implemented into Cypriot law, but is due to be towards the end of 2017. Importantly, the European Commission adopted proposals on 5 July 2016 for legislation to amend 4AMLD (these amendments being referred to informally as the “Fifth Anti-Money Laundering Directive”) that will require cryptocurrency exchanges and wallets to conduct KYC and identify suspicious activity on users and investors. As such, we expect Cypriot ICOs to be expressly caught by the AML regime in the near future.
The main purpose of the Payment Services Directive has been to address the fragmentation of the European payment services market and further to increase competition in the payment services sector. Accordingly, the PS Law regulates all types of electronic and non-cash payments, such as credit transfers, direct debits, card payments, and mobile and online payments.
In certain circumstances an ICO may constitute the provision of a payment service.
The E-Money Directive modernises the regulatory framework applicable to electronic money institutions and to address a number of inconsistencies which caused a disruption of the level playing field between payment services institutions and electronic money institutions. The E-Money Law implements this regime in Cyprus, and obstacles which previously prevented the arrival of new entrants in the sector are now resolved.
As with the PS Law, the E-Money Law may impose regulation of ICOs in certain circumstances.
The Prospectus Law requires that a prospectus be published in respect of “a public offer of securities”, which means a communication to persons in any form and by any means, presenting sufficient information on the terms of the offer and the securities to be offered, so as to enable an investor to decide to purchase or subscribe to these securities and includes.
Determining whether the tokens offered in an ICO may be considered to be “securities” in this respect will be key. To the extent that they are, certain exemptions apply which may in any case apply so as not to require a prospectus to be published.
Laws governing collective investment schemes
Collective investment schemes in Cyprus may be either undertakings for collective investment in transferable securities (UCITS) regulated by the UCITS Law or alternative investment funds (AIFs) regulated by the AIF Law and AIFM Law. In practice UCITS will not be relevant in ICOs but the AIF Law may be, where the ICO operates as a collective investment scheme offering equity or equity-like instruments.
FATCA and the CRS
FATCA and the CRS relate to the automatic exchange of information between jurisdictions for the purposes of combatting tax evasion. The extent to which these pieces of legislation will be relevant to an ICO will depend on the structure and, particularly in relation to FATCA, the beneficial ownership of the company acting as issuer in the ICO. Although not directly relevant to the launch of an ICO, these considerations also need to be given due attention when preparing the ICO.
The E-Signature Regulation is relevant to determining the requirements for accepting electronic signatures on terms and conditions or purchase agreements for tokens. Care needs to be taken that the ICO subscription process complies with the E-Signature Regulation’s requirements.
Furthermore, to the extent that the purchase of tokens will be governed by Cypriot law agreements and terms and conditions, the rules of Cypriot contract law will also need to be observed. Contract law in Cyprus is governed by the Contract Law, Cap.149 of the statute laws of Cyprus, as well as common law development in the Cypriot courts and English common law principles adopted in Cyprus. Cypriot contract law is based on English contract law, and offers a flexible and commercially sensitive regime within which business can be conducted.