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On 29 March 2021, The Dubai Financial Services Authority (“DFSA”) published its Consultation Paper No. 138 relating to the regulation of security tokens (“Consultation Paper”). For a period of 30 days, the regulator will be collecting feedback from the public on its proposed regulatory framework around security tokens (“Security Tokens”), a specific form of crypto asset/token being characterized by the following:
- it digitally represents rights and obligations that are created, stored and susceptible of electronic transfer through distributed ledger technology (“DLT”) or similar technology; and
- it confers rights and obligations which are the same as or substantially similar to traditional investment instruments (e.g. share, debenture, future, option, etc.).
The core of this initiative therefore revolves around the innovation brought by DLT, of which blockchain is undoubtedly one of the most notorious application. The Consultation Paper defines it as “a class of technologies that support the recording of encrypted data held on a distributed ledger, electronically accessible by a network of participants from multiple locations, and that can be updated by those participants, based on agreed consensus, protocol or procedures (i.e. distributed consensus)”.
The Consultation Paper represents a remarkable step for the DFSA which, in September 2017, issued a general investor statement on cryptocurrencies stating that it was not regulating tokens, nor granting license to firms in the Dubai International Financial Centre (“DIFC”) to undertake token-related activities and considered them to be high-risk.
While drafting the Consultation Paper, the DFSA benchmarked the exercise against other jurisdictions and organisations having developed analogous regulatory responses, such as the UK, EU, ADGM and IOSCO. The DFSA’s objective is clear: clarify the application of the financial services regime to persons that carry out business in relation to Security Tokens and implement appropriate regulations to such business in order to address essential components (e.g. investor protection, market integrity and financial stability risks and AML/CTF).
For the time being, it is to be noted that alternative types of tokens, such as exchange tokens and utility tokens, are not covered by the Consultation Paper but will be subject to separate proposals to be shared by the DFSA in the future.
Addition of Security Tokens to DFSA Regime
Current DFSA regime:
- Regulation of activities conducted in or from the DIFC and related to Investments (defined as either securities or derivatives in the DFSA General Module for persons who:
- offer securities to the public or seek to have their Securities admitted to trading on a market, to meet the prospectus disclosure obligations; and
- conduct financial services activities to be licensed and regulated by the DFSA.
- Definition of Security Token as “a cryptographically secured digital representation of rights and obligations, issued, stored and transferred using DLT or other similar technology that confers the same rights and obligations as those conferred by one or more existing Securities or Derivatives or confers substantially similar rights and obligations or has a substantially similar purpose or effect to one or more existing Securities or Derivatives”.
- Issuance of a guidance clarifying that the DFSA considers a Security Token to be an Investment, as defined in the DFSA General Module, if it confers rights and obligations as noted above and setting forth factors to be considered when determining whether a Security Token is a particular type of Securities or Derivatives.