The Hong Kong Government released the conclusions of its public consultation on a proposed licensing regime for virtual asset services providers (“VASPs”) on 21 May 2021 (the “Consultation Conclusions”).
Having received broad support for its proposals, the Government will now proceed to prepare draft legislation without any significant changes to the consultation proposals and aim to introduce a bill in the 2021-22 legislative session.
Proposed Licensing Regime
The proposal to introduce a licensing regime for VASPs (the “Proposal”) formed part of the Financial Services and Treasury Bureau’s (“FSTB”) public consultation on enhancing anti-money laundering and counter-terrorist financing (“AML/CTF”) regulation in Hong Kong, which closed on 31 January 2021. The Proposal was prepared in line with the Recommendations of the Financial Action Task Force (“FATF”) on VASPs.
Since November 2019, the Securities and Futures Commission (“SFC”) has maintained a set of voluntary regulatory standards for virtual asset trading platforms (the “Opt-in Regime”). However, the Opt-In Regime only covers trading platforms that offer at least one virtual asset that is a “security” and the Proposal is intended to expand the SFC’s regulatory powers in this fast evolving area.
The Proposal amends the Anti-Money Laundering Ordinance (“AMLO”) to designate the business of operating a “virtual asset exchange” as a “regulated VA activity” and to require any person engaging in that activity to obtain a VASP licence from the SFC. Other virtual asset activities are presently not covered by the licensing regime given their negligible presence in Hong Kong.
Under the Proposal, only Hong Kong incorporated companies will be eligible to apply for a VASP licence, to ensure licensees have a permanent establishment and proper scale of operations in Hong Kong. Persons who are not licensed VASPs will be prohibited from actively marketing services associated with virtual asset exchanges to the public in Hong Kong, whether in Hong Kong or from elsewhere.
Licensed VASPs will initially be restricted to offering virtual asset exchange services to “professional investors,” meaning that virtual asset exchanges will be prohibited from dealing with retail customers. According to the Consultation Conclusions, over 40% of respondents consider that retail investors should also be allowed to participate in virtual asset exchanges (likely making this the most contested issue in the Proposal).
However, the Government’s view is that the restriction is necessary to protect the investing public in Hong Kong, at least for the initial stage of the licensing regime, though it will continue to monitor and review this position.
It is anticipated that the definition of “virtual asset exchange” will include virtual asset trading platforms, but not pure peer-to-peer trading platforms.
“Virtual assets” will include what are commonly described as cryptocurrencies and “stablecoins”, but will not include digital representations of fiat currencies (including central bank issued digital currency) and other financial products already regulated under the Securities and Futures Ordinance (“SFO”). The definition of “virtual assets” excludes closed-loop, limited purpose items that are non-transferable, nonexchangeable and non-fungible (e.g. air miles, credit card rewards, gaming coins etc.).
Respondents to the consultation asked for further clarification of the definition. In our view, it is currently unclear whether the definition of a “virtual asset” excludes non-fungible tokens or if it makes a distinction between a “proof-of-work” or “proof-of-stake” protocol. Having regard to the fast-evolving nature of the virtual asset market, the Government proposes to empower the SFC to prescribe characteristics that constitute a “virtual asset” and enable the Secretary for Financial Services and the Treasury to determine whether any digital representation of value constitutes a “virtual asset”.
Respondents to the consultation also questioned the need to empower the SFC to enter the business premises of a licensed VASP, noting that the operations of VASPs are different from conventional financial institutions. However, the Government emphasized the need for VASPs to maintain a permanent place of business in Hong Kong and to observe similar regulatory requirements as licensed Hong Kong financial institutions.
Similar to licences for other types of regulated activity, the licensed VASP, their responsible officers and ultimate owners will be subject to a “fit and proper” test. To ensure proper management, the VASP licensee will need to appoint at least two responsible officers to ensure compliance with AML/CTF and other regulatory requirements.
Among other requirements, a licensed VASP will be required to maintain adequate financial resources, with details of the required amount expected to be included in the draft legislation or subsidiary legislation.
The Consultation Conclusions appear to clear the path towards implementing the Proposal as an amendment to the AMLO. If and when the amendments come into effect, the licensing and supervisory powers of the SFC will for the first time be extended materially beyond the framework established by the SFO.
Michael P Wong is a partner at Dechert in Hong Kong.
 See description on licensing requirements and the “fit and proper” test in the last paragraph of this section.
 The Proposal makes reference to the concept of “active marketing” under section 115 of the Securities and Futures Ordinance (“SFO”).
 Although not specifically defined in the Proposal, the definition of “professional investors” will likely reference its definition under section 1 of Part I of the SFO, as is the case under the Opt-in Regime.
 Defined as any trading platform which is operated for the purpose of allowing an offer or invitation to be made to buy or sell any virtual asset in exchange for any money or any virtual asset (whether of the same or different type), and which comes into custody, control, power or possession of, or over, any money or any virtual asset at any point in time during its course of business.
 Defined as a digital representation of value that (i) is expressed as a unit of account or a store of economic value; (ii) 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 (iii) can be transferred, stored or traded electronically.