New OTC legislation released, overview of Hong Kong Treasury Bureau’s legislative proposals

On February 8, 2024, the Hong Kong government launched a public consultation on the legislative proposal to establish a licensing system for virtual asset over-the-counter trading service (OTC) providers.

The key points of the legislative proposals are as follows:

(i) Requirements Anyone who provides any virtual assets and spot money trading services in the form of business in Hong Kong must apply for a license from the Commissioner of Customs and Excise;

(ii) Covers all virtual asset OTC trading services, regardless of whether the relevant services are provided through physical stores and/or other platforms;

(iii)Given The powers of the Commissioner of Customs and Excise to supervise the compliance of licensees in combating money laundering and terrorist financing and to implement the statutory and regulatory requirements of the new system; and

(iv) Provide transitional arrangements to enable the regulatory system to be effectively implemented.

The following is the full text of the legislative proposal.

Introduction

Purpose

The government proposes to establish a licensing system for virtual asset over-the-counter trading services. Operators must be licensed and must comply with relevant regulations on combating money laundering and terrorism. Fund raising requirements and other regulatory requirements. This document sets out the conceptual framework and main contents of the legislative proposals for public consultation. We welcome comments from relevant stakeholders to help us formulate the details of the legislative proposals.

Background

In October 2022, the government issued the " Policy Declaration on the Development of Virtual Assets in Hong Kong", clarifying the government's vision and policy guidelines for the virtual asset industry. The "Policy Declaration" specifically stipulates that the government is committed to formulating a comprehensive regulatory framework for virtual asset activities based on the principle of "same business, same risks, same rules".

As far as virtual asset trading platforms are concerned, the Anti-Money Laundering and Counter-Terrorist Financing (Amendment) Ordinance 2022 will be enacted in December 2022 to establish a comprehensive The regulatory system complies with the anti-money laundering and terrorist financing requirements prescribed by the Financial Action Task Force (FATF) and provides investor protection. Since the system is implemented in June 2023, anyone operating a virtual asset trading platform business must apply for a license from the Securities and Futures Commission (SFC) as the regulatory agency, and must meet the fit and proper criteria, including relevant crackdowns money laundering and terrorist financing provisions, and investor protection provisions. The China Securities Regulatory Commission has the power to supervise, investigate and intervene. Violators of relevant regulations may be subject to administrative and criminal penalties.

As of the end of January 2024, there are two virtual asset trading platforms holding Type 1 regulated activities (securities trading) under the Securities and Futures Ordinance. ) and Type 7 regulated activity (provision of automated trading services) license. Both platforms are approved by the China Securities Regulatory Commission to provide services to retail investors. In addition to the above-mentioned platforms, as of the end of January 2024, the SFC was processing 14 license applications under the Anti-Money Laundering Ordinance.

The development of virtual assets is changing rapidly. Therefore, the government and financial regulatory agencies have been paying attention to changes in the industry situation, market development, risks and international discussions on regulation, and Review the scope of the virtual asset services regulatory regime from time to time to ensure that risks associated with industry development are properly managed.

In 2023, some fraud cases involving purported virtual asset trading platforms have made the public more concerned about the risks of virtual asset activities. Although the activities of virtual asset trading platforms have been supervised by relevant systems, these cases revealed that virtual asset OTC trading shops are involved. In particular, some OTC trading shops are suspected of being one of the main channels to transfer funds from retail investors to relevant suspected Fraudulent schemes (such as making false or misleading statements about the licensed status of a virtual asset trading platform). Therefore, the government believes that it is necessary to bring virtual asset over-the-counter trading services into regulation through legislative amendments to ensure that the virtual asset regulatory system implements the principle of “same business, same risks, same rules” and fully protects investors.

Legislative Proposals

Werecommend that the Anti-Money Laundering Regulations" to establish a new licensing system for virtual asset over-the-counter trading service providers. With reference to the licensing system for virtual asset trading platforms and the licensing system for money service operators, the proposed system will require virtual asset OTC trading service licensees to meet a number of licensing and regulatory requirements, as well as set out Below are the requirements for combating money laundering and terrorist financing.

Under the proposed system, any person who engages in business related to any virtual asset spot trading services in Hong Kong must apply for a license from the Commissioner of Customs and Excise and must Comply with the fit and proper criteria and other factors deemed relevant by the Commissioner of Customs and Excise. Licensed virtual asset over-the-counter trading operators must comply with the anti-money laundering and counter-terrorist financing requirements and other regulatory requirements stipulated in the Anti-Money Laundering Ordinance.

This system will cover all OTC virtual asset trading services, regardless of whether these services are provided through physical stores or other platforms. As for virtual asset trading platforms, since they are already covered by the current virtual asset trading platform licensing system, the proposed new system will explicitly exclude these trading platforms.

The Commissioner of Customs and Excise will be empowered to enforce the system in accordance with statutory requirements and supervise the compliance of licensed virtual asset over-the-counter trading service providers.

Regulation of virtual asset over-the-counter trading service providers

Due to the increasing popularity of trading in virtual currencies and other virtual assets, the world has begun to gather a consensus that it is necessary to deal with the potential money laundering and terrorist financing risks that virtual assets pose to the international financial system. Specifically, because virtual assets can be bought and sold pseudonymously or anonymously without being processed by an approved central system, they face higher risks of money laundering and terrorist financing than traditional methods of transfer, asset custody or custody. Criminals can abuse these features to conduct layered transactions, converting criminal proceeds into fiat currency through the traditional financial system.

In order to address the money laundering and terrorist financing risks of virtual asset activities, the Special Organization revised its standards contained in Recommendation 15 in February 2019, stipulating that Each jurisdiction is required to regulate virtual asset service providers with regard to combating money laundering and terrorist financing and monitor their compliance. Briefly, the FATF requires each member region to impose on virtual asset service providers all current anti-money laundering and counter-terrorist financing requirements applicable to financial institutions and designated non-financial companies and industry persons. Member regions can require virtual asset service providers to comply with anti-money laundering and terrorist financing regulations that are consistent with those applicable to financial institutions and designated non-financial companies and industry persons through prohibitions on virtual asset transactions or licensing/registration mechanisms.

In addition, many virtual assets have no intrinsic value, are highly speculative in nature, have extremely volatile prices, and are often involved in fraud, security loopholes and market fraud globally and in Hong Kong. manipulation, thus posing significant challenges to investor protection.

In this regard, the virtual asset trading platform licensing system will take effect on June 1, 2023. Although the activities of virtual asset trading platforms are regulated by the Securities and Futures Commission under the system, some unregulated virtual asset activities still expose ordinary investors to risks related to money laundering and terrorist financing and misconduct, especially those caused by fraud. risks. Among them, some suspected fraud schemes even attract funds from retail investors through associated virtual asset over-the-counter trading shops, and these over-the-counter trading shops use physical stores and social platforms to attract customers through fraud.

Based on preliminary on-site observations by law enforcement agencies, there are roughly 200 physical virtual asset over-the-counter trading shops in Hong Kong (including over-the-counter trading shops operated by ATMs) Trading shops) are operating, and there are approximately 250 digital platforms or active online posts providing virtual asset trading services. Considering the role of these virtual asset over-the-counter trading shops in transferring general investor funds and operating a considerable scale of business in the Hong Kong market, there is an urgent need to bring their operations under regulation to ensure the implementation of relevant measures to combat money laundering and terrorism. Measures to raise funds and protect investors.

Scope of regulation

We recommend that any person who To operate an OTC virtual asset trading business in Hong Kong, or to actively promote the provision of OTC virtual asset trading services to the Hong Kong public, one must obtain a license from the Commissioner of Customs and Excise and comply with the fit and proper criteria and other regulatory requirements. The over-the-counter trading business of virtual assets will be defined as:

(a) Providing spot trading services for any virtual assets in the form of a business;< /p>

(b) Whether the service is provided through physical stores (i.e. including ATMs) or other platforms (e.g. digital platforms); and

(c) Explicitly exclude the operation of virtual asset trading platforms already covered by the virtual asset trading platform licensing system.

Part (a) of the definition aims to specify the scope of over-the-counter spot trading activities of virtual assets, which includes any virtual asset spot trading business activities . The definition includes the part about "in the form of business", which is intended to exclude virtual asset transactions between individuals (Peer-Topeer), unless the transaction constitutes the business of one of the parties. This arrangement complies with international standards (such as requirements determined by special organizations).

Similarly, part (b) of the definition takes into account the wide range of business forms of virtual asset OTC operators. Based on the principle of “same business, same risks, same rules”, we believe that it is necessary to ensure that all forms of virtual asset OTC trading services are regulated by the proposed system.

Although the above proposed definition stipulates the scope of virtual asset OTC trading service providers that are required to apply for a license, we have observed that operators of virtual asset trading services Temporary custody/storage services may be provided for customers' virtual assets as part of their transaction process. Considering that such temporary custody/storage services may involve operational risks and investor protection concerns, whether virtual asset OTC trading service operators that provide temporary custody/storage services during the transaction process should be subject to the proposed regulatory regime What is covered and whether specific regulatory requirements should be established for such temporary custody/temporary storage services are welcomed.

Qualifications

To ensure that license applicants have In order to facilitate effective regulation and supervision by the authorities, we recommend thatlicense applicants must be (i) companies established in Hong Kong with a fixed place of business, or (ii) companies established elsewhere and established in Hong Kong under the Companies A company registered under the Regulations.

Since virtual asset over-the-counter trading services in Hong Kong are now generally operated in the form of physical stores, applicants must provide suitable operating premises . As for virtual asset over-the-counter trading shops that operate digitally, they must provide information such as the office address and mailing address of local managers, as well as the location where books and records are stored locally. In determining the suitability of an applicant, the Commissioner of Customs and Excise will take into account all relevant matters, including whether the applicant (or any of its directors or ultimate owners) has been convicted in Hong Kong or elsewhere of money laundering and terrorist financing offences, or other serious Be convicted of an offence; be convicted of fraud, corruption or dishonesty in Hong Kong or elsewhere; be involved in any bankruptcy or liquidation proceedings; or fail to comply with anti-money laundering and counter-terrorist financing and other applicable requirements.

Regulatory requirements—permitted activities

Subject to In terms of regulated activities, the licensee may conduct spot transactions in which any virtual asset is converted into any money, or any money is converted into any virtual asset in its business. As for transactions in which one virtual asset is converted into another virtual asset, it is now recommended that licensees are not allowed to conduct such transactions. In other words, service providers interested in providing conversion between virtual assets should consider applying for a virtual asset trading platform license.

Licensees can only remit the converted funds if they meet specified conditions. Based on the principle of "same business, same risks, same rules", licensees must apply for a money service operator license if they provide legal currency remittance services. As for the transfer of virtual assets after selling them to customers, in order to mitigate the risks of money laundering and terrorist financing, the licensee will only be allowed to transfer the virtual assets from its registered wallet to a place where the customer can provide possession and/or Or a wallet with proof of control.

The licensee must apply and register all wallets used in its operations with the Commissioner of Customs and Excise, and ensure that the list of wallets is constantly updated. Licensed operators are not allowed to provide other services, including any form of virtual asset advisory or referral services, provision of virtual asset derivatives or other financial products (including but not limited to pledges, loans and margin transactions). As for the storage/temporary storage services of direct or indirect customers’ virtual assets provided by licensed operators, unless these services of custody/temporary storage of virtual assets for customers are of a temporary nature and are an integral part of the transaction process, our preliminary thoughts are are not allowed to provide such services.

As for the types of virtual assets that virtual asset OTC operators can buy and sell for customers, considering that these operators provide services to general investors, they are subject to For more stringent supervision to ensure adequate investor protection, we recommend that services provided byvirtual asset over-the-counter trading licensees can only cover retail investors on at least one virtual asset trading platform licensed by the Securities and Futures Commission. Trading tokens and stablecoins issued by issuers licensed by the Hong Kong Monetary Authority (HKMA) upon the implementation of the proposed stablecoin issuer licensing regime. In other words, the services provided by licensed virtual asset over-the-counter trading operators include any tokens that are not available for trading by retail investors on at least one virtual asset trading platform licensed by the Securities and Futures Commission, or any tokens that are not traded by retail investors. Stablecoins issued by issuers licensed by the Hong Kong Monetary Authority are in violation of the over-the-counter trading regulatory regime for virtual assets. This approach ensures that tokens exposed to retail investors undergo appropriate vetting procedures and prevents regulatory arbitrage.

Other regulatory requirements

To maintain control over virtual assets The requirements for OTC trading operators are consistent with those of other regulated entities. We recommend that licensees comply with the anti-money laundering and counter-terrorist financing requirements stipulated in the Anti-Money Laundering Ordinance regarding customer due diligence and record keeping.

In addition, because virtual assets are high-tech and highly speculative, and virtual asset over-the-counter trading services are easily accessible to the general public, we believe that it is necessary to regulate virtual assets. Asset OTC trading licensees comply with a sound set of regulatory requirements to ensure that they have sufficient capabilities and knowledge to properly operate virtual asset OTC trading businesses to mitigate potential risks to investors due to system failures or security vulnerabilities.

Considering that the operation model of virtual asset over-the-counter trading services involves the virtual asset sector and the money service sector, we referred to the virtual asset industry when formulating regulatory requirements. Regulatory regime for asset trading platforms and money service operators, including:

(a) Appointment of a qualified compliance officer and a A Money Laundering Reporting Officer – We consider it necessary to ensure that licensees appoint appropriate personnel to be responsible for compliance with relevant licensing requirements;

(b) Qualifications/Knowledge and Experience - The licensee must establish a good corporate governance structure and its staff must have the necessary knowledge and experience with respect to virtual assets in order to effectively perform their duties;

(d) Conduct - Licensees must act honestly and fairly, exercise due skill, prudence and diligence, and safeguard the interests of clients and Act in a market sound manner and comply with all statutory and regulatory requirements applicable to the conduct of its business activities;

(e) Risks Management - Licensees are required to have risk management policies and procedures that are appropriate and commensurate with the size and complexity of their business to mitigate the money laundering and terrorist financing, cybersecurity and other risks that may arise from their activities; and< /p>

(f) Keeping of records - The licensee shall properly keep records of transactions and fund flows for the Commissioner of Customs and Excise when he considers it necessary. Check.

Virtual asset over-the-counter trading operators must meet prescribed requirements before they can be issued a license by the Commissioner of Customs and Excise. Virtual asset over-the-counter trading licensees who violate anti-money laundering and counter-terrorist financing requirements and other regulatory requirements are subject to disciplinary and investigative procedures and face law enforcement actions.

License term and transition period

Virtual asset market The situation is changing rapidly, so it is necessary for the Commissioner of Customs and Excise to regularly review whether virtual asset OTC operators still have the required qualifications and capabilities to operate their businesses properly. To this end, we propose that successful applicants will be issued a license for a period of two years and may apply for renewal for a further two years subject to the satisfaction of the Commissioner of Customs and Excise.

In order to assist legal operators currently operating virtual asset over-the-counter trading business in Hong Kong to transition to the new licensing system, we recommend that immediately before the licensing system takes effect Provide a transition period for these operators. Taking into account the purpose of protecting investors and the lead time required for the implementation of the licensing system (such as the review and approval of applications), the current idea is to provide a six-month transition period.

With reference to the virtual asset trading platform system and the registration system for precious metal and gem dealers, we are considering one of the following transition arrangements:

Option 1 – No “deemed licensed” arrangement: There will be a six-month transition period. During the transition period, existing virtual asset over-the-counter trading service providers that were operating immediately before the regulatory regime came into effect will be allowed to continue operating until the six-month transition period if they submit a license application to the Commissioner of Customs and Excise within the first three months. End of period. After the transition period, all virtual asset over-the-counter trading service providers will be required to obtain a license before they can engage in regulated activities. If the original virtual asset over-the-counter trading service provider does not apply for a license from the Commissioner of Customs within the first three months after the transition period takes effect, it must terminate its business in an orderly manner before the end of the fourth month after the transition period takes effect.

Option 2 - with a "deemed to have been licensed" arrangement: Similar to option 1, in the immediate Original virtual asset over-the-counter trading service providers that were in operation before the regulatory regime came into effect will be allowed to continue operating until the end of the six-month transition period if they submit a license application to the Commissioner of Customs and Excise within the first three months. Applicants who can meet the requirements specified by the Commissioner of Customs and Excise will be issued a "deemed license" to continue operating after the transition period until the Commissioner of Customs and Excise makes a final decision on the relevant license application. The Commissioner of Customs and Excise will be empowered to withdraw or amend a "deemed licence" as he sees fit.  

Exemption

According to the Anti-Money Laundering Ordinance , the existing regulatory regime under the Securities and Futures Ordinance and the Banking Ordinance, virtual asset trading platforms, licensed corporations and authorized institutions have been properly regulated by the SFC or the HKMA (whichever is applicable). Therefore, we recommend that such entities be exempted from the new licensing regime if they provide over-the-counter virtual asset trading services. We also recommend that after the implementation of the stablecoin issuer licensing system, similar exemptions be considered for licensed stablecoin issuers.

Restrictions

In order to prevent ordinary investors from suffering from unlicensed Risks arising from over-the-counter virtual asset trading activities, we recommend that unless licensed by and regulated by the Commissioner of Customs and Excise to engage in regulated over-the-counter virtual asset trading services, no person shall sell securities to Hong Kong in or outside Hong Kong The public actively promotes regulated local virtual asset OTC trading services.

Powers of the licensing authority

As the licensing authority , the Commissioner of Customs will be empowered to supervise the compliance of virtual asset over-the-counter trading licensees in combating money laundering and terrorist financing, and implement other statutory and regulatory requirements under the new system. Specifically, the Commissioner of Customs and Excise has the power to enter a licensee's business premises to conduct routine inspections, investigate suspected violations and remove criminal evidence, make arrests and searches, and impose disciplinary sanctions (including civil fines and suspensions) for violations. or revoke the license). In light of the enforcement experience of the virtual asset trading platform regulatory regime, we are considering adding new powers to prevent access to the websites or digital platforms of unlicensed or fraudulent virtual asset OTC trading operators (either within Hong Kong or overseas).

The Commissioner of Customs and Excise will also be empowered to impose licensing conditions and/or add, change or amend existing conditions. As virtual asset OTC licensees may collaborate with other related businesses (such as virtual asset trading platforms or money service operators), the Commissioner of Customs and Excise will be empowered to request information from relevant authorities (such as the Securities and Futures Commission and the Hong Kong Monetary Authority) , in order to detect possible violations by licensees.

Penalty

Previous cases show virtual asset farms The operation of external trading services has inherent risks, whether in money laundering and terrorist financing, or in other criminal activities such as fraud. In view of the seriousness of these potential illegal activities, the penalties for unlicensed virtual asset OTC trading services need to have a sufficient deterrent effect. In this regard, we recommend that anyone who engages in regulated OTC virtual asset trading services without a license shall be liable to a fine of $1 million and two years' imprisonment upon conviction upon indictment.

We also recommend that any person who knowingly publishes an advertisement regarding the provision of virtual asset OTC trading services by a non-licensed person shall be guilty of an offense and shall be punished under Section 5 A fine of up to NT$50,000 (currently $50,000) and six months' imprisonment.

If a licensee violates statutory anti-money laundering and counter-terrorist financing requirements, he may be fined $1 million and imprisoned upon conviction upon public prosecution. Two years. In addition, if the licensee commits misconduct (such as violating other regulatory requirements), administrative penalties may be imposed, including suspension or revocation of the license, reprimand, order to make corrections, and/or a fine (not exceeding $500,000).

Offenses related to fraudulent and misleading activities under the current Anti-Money Laundering Ordinance will apply to virtual asset over-the-counter trading licensees. Any person who commits fraud or deception in a transaction involving virtual assets commits an offense and is liable to a fine of $10 million and imprisonment for ten years. In addition, any person who makes a fraudulent or reckless misrepresentation to induce others to engage in transactions involving virtual assets is also guilty of an offense and is liable to a fine of $1 million and imprisonment for seven years.

Statutory Appeal

We propose to amend the Anti-Money Laundering Ordinance 》Part 6, expands the scope of reviews of the Anti-Money Laundering and Counter-Terrorist Financing Review Tribunal to cover appeals against future decisions of the Commissioner of Customs and Excise in the implementation of the over-the-counter virtual asset licensing regime.

Next steps

We welcome the public and relevant sectors Please provide opinions and suggestions to advance legislative work. Respondents are invited to provide their views and suggestions on the proposals set out in this consultation document on or before April 12, 2024.

We will consider the opinions and suggestions received and, depending on the progress of the preparatory work, implement the proposed licensing system for over-the-counter virtual asset trading as soon as practicable Submit a bill to the Legislative Council.