Collection des écus européens, 1985

Yesterday BaFin (the German Federal Financial Supervisory Authority) issued a statement about the ICOs and cryptocurrency tokens. It is the first detailed official statement BaFin published on that matter (there was also a general one a few days ago, but it almost went unnoticed).

Although the title of BaFin’s article at first sight seems like a warning — “Initial coin offerings: High risks for consumers” — when one reads into it, it seems like good news for the German cryptocommunity. I would even risk the statement that with this new interpretation of the law, Germany becomes THE Crypto Valley of the world, beating the most popular jurisdictions in the Blockchain community such as Switzerland, and in particular beating the USA as a domicile for cryptocurrency exchanges.

I am not a lawyer, and I only know as much about the cryptocurrency regulations as a diligent CEO of a Blockchain business should know. At Neufund we also coordinated the publishing of a Global Blockchain Policy Report, which gave me additional insights into the regulatory situation of crypto globally. Nonetheless, this post should not be considered a legal opinion, but is rather a call for the German cryptocommunity lawyers, to help us better understand the BaFin statement.

According to BaFin, crypto tokens are “units of account”

The main point in the ICO and cryptocurrencies regulatory debate is that it is uncertain what crypto tokens actually are. They contain some characteristics of currencies (like dollar or euro), of securities (like a share of a company), and even of digital products (like virtual goods purchased in a computer game). Since different tokens could fall into any of these categories, it is uncertain which regulation and which tax regime should apply on them. According to BaFin, however, crypto tokens are units of account.

Generally speaking, cryptocurrency tokens constitute financial instruments (units of account) within the meaning of the German Banking Act (Kreditwesengesetz — KWG).

Units of Account are a rare beast, and most technology entrepreneurs probably never heard of them. One example that comes to mind is the European Currency Unit (ECU), which represented the weighed value of various European currencies towards other world currencies. It was used in some international transactions of the European Community, before being replaced by the euro on 1 January 1999. So ECU does not exist anymore. Another example is Gold Standard, which also does not exist anymore. While it may feel a bit surprising that cryptocurrencies be ruled by laws applicable to something as exotic as ECU or Gold Standard, it is actually not bad at all.

First, it means that crypto tokens in Germany are out of securities regulation. This puts the German community in a lot better situation than the USA, where the Securities and Exchange Commission classified most (if not all) crypto tokens as securities under US law, in an investigative report on TheDAO tokens in July this year. It also means that the German regulation is not only softer, but also more precise than the popular Swiss regulation, where most tokens are security in principle, but there can be exceptions for utility tokens issued in corporate structures with a non-profit organisation. In other words, while in the Swiss Canton of Zug certain types of tokens may be exempted from being a security, in Germany they simply are not a security—they are a unit of account.

Cryptocurrency exchanges domiciled in Germany would be exchanges of units of account

If crypto tokens are units of account, than cryptocurrency exchanges domiciled in Germany are exchanges of units of account.

Therefore, undertakings and persons that arrange the acquisition of tokens, sell or purchase tokens on a commercial basis, or operate secondary market platforms on which tokens are traded are generally required to obtain authorisation from BaFin in advance.

Yes, this means that if you want to establish an exchange in Germany, you will need a license. The good news, however, is that it will likely be a Finanzdienstleistungsinstitut license, which is one of the easier licenses to obtain. It is like a broker license, which is granted if the applicant fulfils 3 criteria: 1) Has sufficient capital to start the business —which falls in the range 25k-200k euro; 2) There is a competent person running the business, which is someone who worked 3+ years in a leading position in a bank or other financial institute, 3) There is a professional liability insurance. It looks like a regulatory paradise for cryptocurrency exchanges, in particular compared to the USA, where — after the interpretation published by the SEC with TheDAO report — cryptocurrency exchanges are likely trading unregistered securities, which is a criminal offense in the US law, and means that one can go to jail for it.

Crypto tokens are out of VAT regulation

Last but not least, units of account are not triggering VAT regulation. Yay!

Reasonably soft regulation does not mean no regulation

All of this does not mean that BaFin will not keep an eye on the booming ICO sector in Germany. While Berlin is generally a progressive, open and liberal place, it will also not allow for chaos. Therefore BaFin explicitly reserves the right to investigate different ICOs and tokens on a case by case basis.

Based on the specific formulation of the contract for each ICO, BaFin decides on a case-by-case basis whether the offeror is required to obtain authorisation pursuant to the German Banking Act (Kreditwesengesetz — KWG), Investment Code (Kapitalanlagegesetzbuch — KAGB), Payment Services Supervision Act (Zahlungsdiensteaufsichtsgesetz — ZAG) or Insurance Supervision Act (Versicherungsaufsichtsgesetz — VAG) and whether they must fulfil prospectus requirements.

This classification of cryptocurrencies is not entirely new in Germany. In 2013 already Germany has recognised Bitcoin as unit of account. This was, however, before the era of ICOs, tokens and smart contracts, and Bitcoin is very different than most crypto tokens today. I am sure BaFin and the German regulatory bodies will gain a broad support from the German Blockchain community in establishing a sensible regulatory framework. Hardly anything is worse for entrepreneurs than the regulatory uncertainty, and Blockchain and its related innovations have far broader implications than simply further upgrading the financial industry, which makes the provision of legal certainty an even more pressing issue. I am glad to see Germany addressing it heads on.