Introduction

In May 2021, the Financial Services and the Treasury Bureau (“FSTB”) concluded its consultation on a new licensing regime for virtual asset services providers (“VASPs”) in Hong Kong. In line with the anti-money laundering and counter-terrorist financing (“AML/CTF”) requirements by the Financial Action Task Force (“FATF”), an amendment bill is to be introduced into the Legislative Council for regulation of VASPs under the new regime. The regime requires VASPs to obtain a licence from the Securities and Futures Commission (“SFC”). This means that they must satisfy a fit-and-proper test. Also, licensed VASPs will be subject to the ongoing supervision by the SFC as well as the AML/CTF requirements under Schedule 2 of the Anti-Money Laundering and Counter-Terrorist Financing Ordinance (Cap. 615) (“AMLO”).

Scope and coverage of the new licensing regime

The new regime will apply to a wide range of virtual asset (“VA”), covering both stable virtual coins (i.e. stablecoins) and not stable ones, irrespective of the purported form of underlying assets. Under the new legislation, a VA will be a digital representation of value that:

1.        is expressed as a unit of account or a store of economic value;

2.        functions (or is intended to function) as a medium of exchange accepted by the public as payment for goods or services or for the discharge of a debt, or for investment purposes; and

3.        can be transferred, stored or traded electronically

The following types of asset fall out of the ambit of the new regime:

Apart from the proposed definition of VA, the new regime will enable the SFC and the Secretary for Financial Services and the Treasury to consider whether any digital representation of value constitutes a VA.

The amended AMLO will require a licence to operate a virtual asset exchange (“VA Exchange”) in Hong Kong as this will constitute a regulated VA activity. In line with the FATF’s requirement, the definition of a VA Exchange will be any trading platform which (i) is operated for the purpose of allowing an offer or invitation to be made to buy or sell any VA in exchange for any money or any VA and (ii) comes into custody, control, power or possession of, or over, any money or any VA at any point in time during its course of business. This will not include peer-to-peer trading platforms which are not involved in the underlying transactions by coming into possession of any money or VA. Depending on the development of VA trading in Hong Kong, the licensing regime may expand to cover activities other than VA Exchanges in the future.

Licensing requirements

Eligibility

Locally incorporated company with a permanent place of business in Hong Kong is eligible to apply for a VASP licence. In addition, overseas companies registered in Hong Kong under the Companies Ordinance (Cap. 622) are also eligible. The decision is based on the consideration of both market preference and the need for supervision and enforcement by the SFC.

Licensing requirements

A licensing applicant must appoint at least two responsible officers who are in charge of the compliance with AML/CTF and other regulatory rules. Applicants and their responsible officers and ultimate owners will have to satisfy a fit-and-proper test. Below is a non-exhaustive list of the factors that the SFC considers when applying the test:

1.    whether the person has been convicted of any money-laundering or terrorist financing offence, or any other offence in which the person is found to have acted fraudulently, corruptly or dishonestly;

2.    whether the person has failed or may fail to observe the AML/CTF or other regulatory requirements applicable to licensed VASPs;

3.    the experience and relevant qualifications of the person; and

4.    whether the person is of a good standing and financial integrity.

Key regulatory requirements and the SFC’s powers

Regulatory requirements

The FSTB maintains its original proposal to restrict the clients of VASPs to professional investors only. This is despite of the fact that nearly half of the respondents wish to expand the scope to cover retail investors. The FSTB makes this conservative decision because the licensing regime is still at its initial stage, and there is a need to prevent potential risks. As the VA market develops, there may be opportunities in the future for VASPs to provide service to more types of investors. Other requirements include risk management, disclosure, prevention of conflict of interests, etc. These generally receive support from the respondents.

The SFC’s powers

Licensed VASPs will be subject to the SFC’s supervision of their AML/CTF conduct. Also, the SFC can enforce other requirements under the AMLO. The SFC will be able to:

1.    enter business premises of licensed VASPs and their associated entities for regular inspections;

2.    request for documents and other records;

3.    investigate non-compliances and impose administrative sanctions;

4.    prohibit or restrict the operation of licensed VASPs and their associated entities in circumstances such as protecting client assets in the event of urgency; and

5.    review and revoke a licence if needed.

Conclusion

The new regime is a fair initiative to strengthen the regulatory environment for VA in Hong Kong. We responded to the consultation and suggested that there should be a balance between public interest and Hong Kong's status and strengths as a leading financial centre. There will be a 180-day transitional period upon commencement of the licensing regime, so there is limited time for existing VASPs to ease into the new regulations. Please do not hesitate to contact us if you are interested in exploring the new regime.