Is there a future for crypto marketing in the UK?
Following the coming into force of the Financial Conduct Authority’s new crypto marketing regime, Wendy Saunders provides a breakdown of what it all means in practice
Undeniably, the overall effect of the UK Financial Conduct Authority’s (FCA) new crypto marketing regime is to severely restrict the extent to which cryptoassets may be marketed to persons in the UK. However, before delving into the analysis of why it is so restrictive and the remaining ways in which cryptoassets may be marketed in the UK, it is worth reflecting for a moment on the broader landscape.
Overview of the financial services landscape concerning crypto
The technology supporting cryptographically secured digital assets and the means by which those assets may be transferred, for example via blockchain or other forms of distributed ledger technology, has the potential to be applied across many use cases in very beneficial ways including in relation to financial services. UK HM Treasury has consulted on the first financial market infrastructure sandbox – referred to as the Digital Securities Sandbox – to be delivered under the powers granted as part of the Financial Services and Markets Act 2023 (FSMA 2023), which will enable digital securities to be tested and ultimately adopted across financial markets. Also, under FSMA 2023, HM Treasury has powers to bring activities that issue or facilitate the use of stablecoins used as a means of payment (effectively payment cryptoassets) into the UK regulatory perimeter. Systemic payment systems and systemic service providers supporting payment cryptoassets may also be brought within the scope of regulation. In future, it is possible that distributed ledger technology and cryptographically secured digital assets could be used to implement a central bank digital currency, aka a ‘digital pound’.
However, the predominant focus of headlines in relation to cryptoassets to date has been on their promotion to retail customers as a form of investment and consumers’ significant consequential losses due to firm failures. The FCA noted in its policy statement on the new crypto marketing regime that many of these cases involved misleading promotions such as offering high rates of return with no evidence on how these could be achieved and promoting high-risk, complex products as ‘stable’, such as the algorithmic stablecoin project Terra/Luna. The FCA has been warning consumers for some time that: it has not been given regulatory oversight over direct investments in cryptoassets and non-fungible tokens (NFTs); there are no consumer protections for those who buy any cryptoassets and NFTs; they are not protected under the Financial Services Compensation Scheme; and as a result, if they buy cryptoassets they should be prepared to lose all the money they invest. In early 2021 the FCA prohibited the sale to retail clients of investment products that reference cryptoassets. Now, even with the introduction of the new crypto marketing regime, it should be remembered that the majority of cryptoassets remain unregulated.
What is the new FCA crypto marketing regime and how does it work?
Under the FCA financial promotion regime, a financial promotion (in short for present purposes an invitation or inducement to engage in investment activity) can only be communicated in the course of business: by an authorised firm (being a firm with Part 4A permission under the Financial Services and Markets Act 2000 (FSMA)); if it has been approved by an authorised person; or otherwise falls within one or more exemptions. This is known as the restrictions on financial promotion. The investments and activities to which the restrictions apply are set out in subsidiary legislation. The new FCA crypto marketing regime, which entered into force on 8 October 2023, has been implemented by expanding: the list of investments to include ‘qualifying cryptoassets’; and the list of activities to include dealing in, arranging deals in, managing, advising on, and agreeing to carry on specified kinds of activity in relation to qualifying cryptoassets.
To carry on, as distinct from advertise, most of the above activities in the UK in relation to cryptoassets would require a firm to be registered with the FCA as a cryptoasset exchange provider and/or custodian wallet provider under the Money Laundering, Terrorist Financing and Transfer of Funds (Information on the Payer) Regulations 2017 (MLRs).
Cryptoassets are similarly defined under the MLRs and financial promotion regime, although under the latter the definition is slightly broader as the technology supporting the recording or storage of data does not have to be distributed ledger technology. However, the only cryptoassets in scope of the financial promotion regime are qualifying cryptoassets and, therefore, the scope of application of the financial promotion regime to cryptoassets is in fact narrower than that of the MLRs. The most obvious example of this is NFTs. To be a qualifying cryptoasset, a cryptoasset must be both fungible and transferable. Other cryptoassets that are not qualifying cryptoassets include: cryptoassets that would already be caught as another type of controlled investment under the financial promotion regime; electronic money; fiat currency; digitally issued fiat currency; or cryptoassets that can only be used in a limited way, like the limited network exclusion applicable to e-money and payment services.
So, if an unauthorised, unregistered firm wants to communicate a financial promotion in relation to a qualifying cryptoasset, how might it go about doing it? The merits of various potential options are considered below.
Would it be viable to become a cryptoasset exchange provider or custodian wallet provider under the MLRs?
There is a specific exemption for cryptoasset exchange providers and custodian wallet providers that are included on the FCA register and are not authorised persons to communicate their own financial promotions in relation to qualifying cryptoassets. Such firms would have to prepare their own communications, which must be non-real-time communications (e.g., written communications including email). Such firms cannot approve the financial promotions of other firms. However, the exemption is only intended to be temporary, and is subject to the powers of the FCA to impose requirements or issue directions to registered firms in relation to such promotions.
Further, it is not easy for firms to become registered with the FCA as a cryptoasset exchange provider or custodian wallet provider. As of 1 October 2023, the FCA had received 326 such applications since January 2020 when the regime came into effect, but only 43 firms had managed to get registered. On 6 October 2023, the FCA updated its webpage providing feedback on good and poor quality applications. Firms wishing to make an application should seek early legal and compliance advice and consider very carefully the relevant FCA guidance and feedback.
So, is getting financial promotions approved by an authorised firm a more practical way forward?
Potentially, but there are also challenges with this approach. First, there is the question of whether an authorised firm has the right regulatory permissions and/or experience to be able to approve financial promotions for qualifying cryptoassets. Second, there are detailed content, procedural and record keeping requirements that authorised firms must comply with when approving such promotions. Third, approving such financial promotions would be a high-risk activity from a regulatory perspective, and there may not be that many firms that wish to offer this service.
Currently, authorised firms do not need specific regulatory permission to approve financial promotions. However, in relation to investments (by virtue of the requirements contained in the FCA Handbook at COBS 4) the individuals responsible for the compliance of the financial promotion must have the appropriate competence and expertise. Under the forthcoming financial promotion gateway (effective from 7 February 2024, subject to a transition regime and certain limited exemptions), authorised firms must have specific regulatory permission to approve financial promotions and the regulatory permission granted will be limited to certain product types. There are a number of requirements that authorised firms will need to satisfy to obtain the relevant regulatory permission, including in relation to competence and expertise. It could be hard for authorised firms to demonstrate competence and expertise in relation to qualifying cryptoassets. Of note, less than a fifth of FCA-registered cryptoasset firms are also authorised under Part 4A FSMA.
Concerning content, procedural and record keeping requirements, the FCA has issued updated non-Handbook guidance for approving financial promotions in relation to investments. Qualifying cryptoassets are categorised as restricted mass market investments, which means they can be mass marketed to retail investors subject to certain restrictions, including risk warnings and risk summaries, a ban on incentives to invest, and for direct offer financial promotions (where the ad contains a mechanism for responding) a cooling-off period, a personalised risk warning pop-up, client categorisation (restricted, high net worth or certified sophisticated investor), and an appropriateness test. Draft non-Handbook guidance in relation to cryptoasset financial promotions covers ensuring such promotions are fair clear and not misleading (broken down into all cryptoassets, cryptoassets that claim a form of stability or which claim their value is linked to a fiat currency, cryptoassets that claim to be backed by a commodity or an asset, and complex yield cryptoasset models or arrangements, e.g., borrowing, lending and staking). Authorised firms should carry out due diligence before a financial promotion is communicated.
Satisfying all the above requirements is no small task. The FCA wasted no time in imposing a restriction on rebuildingsociety.com Ltd to restrict it from approving cryptoasset financial promotions. The firm has the right to make representations to the FCA on the restriction, or to refer the matter to the Upper Tribunal.
Is crypto marketing subject to oversight by any other regulatory bodies?
The Advertising Standards Agency (ASA) clarified that following the introduction of new rules by the FCA, it no longer regulates technical claims in ads for qualifying cryptoassets in non-broadcast media. However, technical claims for ads in relation to some non-qualifying cryptoassets do still fall within its remit, for example ads concerning NFTs. Further, the UK Code of Non-Broadcast Advertising and Direct and Promotional Marketing (CAP Code) still applies to the ‘non-technical’ aspects of ads for products by FCA-regulated business, such as matters relating to offence, social responsibility, superiority claims, fear and distress, denigration and other claims that do not relate to specific characteristics of the product. In addition, under contract with the Office of Communications (Ofcom), the ASA is the day-to-day regulator for all finance-related broadcast advertising via Ofcom-regulated TV and radio services.
The impact of the new FCA crypto marketing regime goes beyond crypto firms and authorised firms. It may also affect social media, video game and other online platforms with user-to-user interactions, who under the Online Safety Bill (which at the time of writing has passed through the parliamentary process and awaits Royal Assent) are made directly responsible for the content they host. Platforms will need to put in place proportionate systems and processes to prevent (or minimise, in the case of search engines) the publication and/or hosting of illegal financial promotions on their service and remove it when they are made aware of it. The online safety regime will be overseen by Ofcom. Ofcom will be producing codes of practice, which will set out what platforms need to do. This could include requiring firms to ensure financial promotions have been made or approved by authorised firms. The penalties for non-compliance include significant fines (of up to £18 million or 10 per cent of their global annual revenue, whichever is biggest) and possible prison terms. Lastly, the UK government is also carrying out its online advertising programme, which will include harms arising from illegal online advertising.
Wendy Saunders is a legal director and head of financial services regulatory at Lewis Silkin