I want to launch an ICO – Help!
It seems that 2017 will go down as the year of the ICO. Whilst still not mainstream, the pool of people in the financial services sector who have never heard of Bitcoin, cryptocurrencies, the blockchain or an initial coin/token offering (ICO) is diminishing quickly. For lawyers across multiple jurisdictions this has meant scrambling to firstly try to understand this rapidly evolving technology and secondly to work out how this technology fits within laws and regulations that were for the most part, drafted without thought or reference to the technology.
Here is what we currently see as the primary legal and regulatory considerations for structuring an ICO through the Cayman Islands. For context, we are viewing an ICO as an alternative method of fund raising for a project on a blockchain network through the acceptance of fiat or cryptocurrency in exchange for tokens associated with the project; these tokens may themselves be tradable.
Structuring an ICO through the Cayman Islands
As alluded to in the opening paragraph, there is an element of legal and regulatory drag in the Cayman Islands. No ICO specific related guidance has of yet been issued by the government or regulator. This is not because of any complacency or lack of will, quite to the contrary. Rather, in seeking to retain the reputation of the Cayman Islands as a leading international finance centre, the government and the regulator in consultation with the private sector wish to ensure that any initiatives aimed at blockchain technology and the associated industry are well thought out, effective and business friendly whilst safeguarding the reputation of the jurisdiction by meeting international standards. As such, we are confident that the clarification of existing legal and regulatory uncertainties is imminent.
Where an ICO is structured through the Cayman Islands, the choice of vehicle is currently a Cayman Islands exempted company (an ICO Company). In other jurisdictions, we have seen foundations used. The Cayman Islands will shortly be introducing a foundation company, which will be an orphan vehicle; by bringing into force the foundation company regime. If ownership and autonomy are concerns for the ICO team, they can be addressed to a certain degree by having a Cayman Islands charitable trust or STAR trust hold all the shares in issue of the ICO Company. A Cayman Islands STAR trust is a non-charitable purpose trust that can hold assets for a specific purpose.
Primary Legal and Regulatory Considerations
As things currently stand, the following Cayman Islands statutory and regulatory regimes must be considered when structuring an ICO through the Cayman Islands:
- The Money Services Law
- The Securities Investment Business Law
- The Proceeds of Crime Law, Anti-Money Laundering Regulations and existing guidance notes
- The Mutual Funds Law
- FATCA and the Common Reporting Standards
- Beneficial Ownership Regime
- Electronic Transactions Law
The correct analysis will be very fact specific for each ICO.
The Money Services Law (the MSL)
The MSL regulates “money services businesses” in the Cayman Islands. Such businesses include the business of providing (as a principal business) money transmission and currency exchange. Currently, the applicability of this law will depend upon the specifics of any ICO. While any specific ICO may, by its nature, fall within the remit of the MSL, we are of the view that the MSL is unlikely to apply to most ICOs.
The Securities Investment Business Law (the SIBL)
Under the SIBL, a person shall not carry on or purport to carry on securities investment business unless that person holds a license granted under the SIBL or is exempt from holding a license. The definition of “securities” and what constitutes “securities investment business” is set out in the SIBL. Briefly, “securities” are defined through a list of instruments common in today’s financial markets and as one would expect, there is no specific mention of digital tokens or cryptocurrencies. “Securities investment business” is defined through a list of activities, being dealing in securities, arranging deals in securities, managing securities and advising on securities.
The SIBL contains a list of “excluded persons” who are exempt from the requirement to hold a license and a list of activities that do not constitute securities investment business for the purposes of the SIBL. Taking these into consideration, it is possible for a token to be classified as a security but for the ICO Company not to be caught by the SIBL.
Each ICO will need to be evaluated on its merits and in our view there are a large number of ICOs where the SIBL will not be applicable. Most notably (but not exclusively) with ICOs involving so called usage/utility tokens.
The Proceeds of Crime Law, Anti-Money Laundering Regulations and existing guidance notes (the AML Laws)
The AML Laws need careful consideration with respect to all Cayman domiciled ICOs. Part of this is because of the regulatory drag mentioned above. The Proceeds of Crime Law has general application to all Cayman domiciled entities. The Anti-Money Laundering Regulations, 2017 and existing guidance notes focus primarily on the regulated sector in Cayman and prescribe certain policies and procedures to be put in place by Cayman regulated entities (being those undertaking “relevant financial business”, which definition is fairly broad) with respect to money laundering.
Given the general application of the Proceeds of Crime Law we would caution any ICO team against thinking that if their intended ICO falls outside the ambit of the Anti-Money Laundering Regulations they don’t need to 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 ICO Company from falling foul of the AML Laws.
The Mutual Funds Law (the MFL)
The MFL should not be a concern where the ICO is not intended to be an investment fund or engage in investment fund activity. If the ICO is related to an investment fund or investment fund activity, the proposed structure needs to be considered in the context of the Mutual Funds Law. Given the current definition of “equity interests” in the Mutual Funds Law (which is a key determining factor as to whether an entity qualifies as a “Mutual Fund”) our view is that most ICO Companies (as distinct from any blockchain/cryptocurrency asset class focused fund) should not be impacted by the Mutual Funds Law.
FATCA and the Common Reporting Standards (AEOI)
AEOI relates to the automatic exchange of information between jurisdictions to combat tax evasion. A detailed explanation of the same is beyond the scope of this article; safe to say that this should not be an issue for so called usage/utility tokens.
Beneficial Ownership Regime
Again any detailed consideration of this regime is beyond the scope of this article. Very briefly, considerations around share ownership, voting rights, the right to remove a majority of the board of directors and the exercise of significant influence and control over an ICO Company will play a part in determining who needs to be recorded on the register. With this in mind, we do think that it is relatively straight forward to ensure that the identity of ICO token holders will not need to be maintained on any beneficial ownership register of an ICO Company.
Electronic Transactions Law (the ETL)
Regard should be had to the ETL when preparing the terms and conditions/purchase agreement relating to the ICO and the acceptance of such terms and conditions/purchase agreement.
The Cayman Islands are seeing an upsurge in ICO related business and structuring an ICO through the Cayman Islands should remain an attractive proposition, certainly where the ICO is well thought out and the ICO team are properly advised.