The FCA has published its anticipated Policy Statement (PS23/6) ‘Financial promotion rules for cryptoassets’ which brings cryptoasset promotions made to UK consumers within the regulator’s remit.  The new rules, which come into effect on 8 October 2023, mean that firms can only market cryptoassets to UK consumers who have the appropriate knowledge and experience to invest. The package of measures is consistent with the rules introduced by the FCA in 2022 to tackle misleading financial advertisements of high-risk investments.  Amongst other restrictions set out  below, the new rules will require crypto firms to offer a cooling-off period for first-time investors.  Firms promoting cryptoassets will also be required to put in place clear risk warnings and ensure communications are clear, fair and not misleading. The FCA has also published a Guidance Consultation ‘Guidance on cryptoasset financial promotions’ (GC23/1) which seeks feedback on proposals for guidance on how the FCA approaches and how firms comply with FCA guidance that cryptoasset financial promotions must be clear, fair and not misleading.  Responses to GC23/1 are due by 10 August 2023.

FCA Policy Statement PS23/6 setting out the financial promotion rules for cryptoassets

The newly published FCA Policy Statement (PS23/6) setting out the financial promotion rules for cryptoassets (PS23/6) brings cryptoasset promotions within the FCA’s remit for the first time.  The new rules which will have effect from 8 October 2023 allow cryptoassets to be marketed to UK consumers subject to certain restrictions including banning incentives to invest, ‘positive frictions’ (personalised risk warning and 24- hour cooling-off period) for first-time investors, client categorisation requirements and appropriateness assessments which we set out further in this article. These restrictions are in addition to the overarching requirement that financial promotions must be clear, fair and not misleading. 

The financial promotions regime will apply to all firms marketing cryptoassets to UK consumers regardless of whether the firm is based overseas or what technology is used to make the promotion.

The final rules are designed so that firms communicating and approving financial promotions for cryptoassets do so to a high standard.  The FCA sets out that its ambition for the cryptoasset financial promotions regime is for consumers to only invest in cryptoassets where they understand the risks involved and can afford to absorb potential losses.  The FCA is aiming to reduce the number of consumers investing in cryptoassets who have a low-risk tolerance or who have characteristics of vulnerability. The FCA will measure success by reducing the proportion of UK consumers accessing cryptoassets through firms that are not authorised or regulated by the FCA.

The FCA notes that even when the financial promotions regime for cryptoassets comes into force, cryptoassets will remain high risk and largely unregulated.  Consumers should therefore be prepared to lose all of their investment and should not expect protection from the Financial Services Compensation Scheme (FSCS) or the Financial Ombudsman Service.

The new rules come into effect as research from the FCA shows that the estimated crypto ownership has more than doubled from 2021 to 2022, with 10% of the 2,000 people surveyed stating that they own crypto. 

Lavan Thasarathakumar, Senior Advisor in our Global Digital Assets and Blockchain Practice comments: “At a time when the UK are trying to position themselves as a choice jurisdiction for cryptoasset firms, this announcement knocks back those ambitions and perhaps shows again the different positions HMT takes compared to the FCA when it comes to this sector. Whilst the rules that have been put in place are part of a wider reform for financial promotions in the UK, the real concern is the categorisation of all qualifying cryptoassets as a restricted mass market investment. This categorisation does not apply any nuance and does not take into consideration that there are different types of cryptoasset that pose varying levels of risk – after all why should a cryptoasset referencing a listed share be any more risky than the listed share itself? Yet the FCA has taken a sceptical approach. The string of measures, will address a number of areas including personalised risk warnings and notifications that you can lose everything that you invest as cryptoassets are a risky investment. However, one that will be of greatest concern for some of our clients is the 24 hour cooling off period. This seems like a disproportionate measure in relation to the risk that is presented.  Other jurisdictions have sought to address this in different ways, often focussing on the educational piece for consumers, the 24-hour cool off period stands to be practically difficult but also from an international competitiveness perspective, discouraging.

HMT’s decision to allow MLR-registered firms to approve their own promotions has been well received, however what is interesting is that this exception has also seen the Conduct of Business Rules amended which now means that AML registered firms have to apply part of COBs despite not being an authorised firm.

Notwithstanding the opportunity to opine in the Guidance Consultation, there is not much that can be done in terms of altering the course of direction the FCA is taking. The hope is that once the Future Financial Services Regulatory Regime for Cryptoassets is in place there will be a re-evaluation of the sector. The consultation suggests that HMT will include within the regime admission to trading rules, obligations on trading venues and disclosures in all the same ways that traditional assets are treated, so hopefully the FCA will be more comfortable in differentiating between cryptoassets and categorising those that have gone through that same level of diligence differently to those that have not, and therefore taking a more proportionate view.

In the meantime, clients will need to do two things. The first is to pay attention to what is in the Guidance Consultation in terms of what is fair, clear and not misleading when it comes to cryptoasset promotions. The Guidance is near final and is a strong indication of what will be expected from firms. The second is to get ready. There is just 4 months to get in place the required processes to comply.”

Background and wider context to the publication of PS23/6

In the following paragraphs, we set out a summary of the background leading up to the publication of PS23/6 to further set the scene. 

• A 2018 report by the Cryptoassets Taskforce (CATF) identified several risks cryptoassets pose to consumers. This included the potential for harm where consumers buy cryptoasset products without appropriate awareness of the risks involved. The report also found that cryptoasset advertising is often targeted at retail investors and is typically not fair or clear, and can be misleading
• In January 2022, the UK Government published a consultation response to its July 2020 consultation setting out its intention to legislate to bring certain promotions of  cryptoassets within the FCA’s remit.  The proposed legislative approach was updated in a policy statement published on 1 February 2023. 
• In January 2022, the FCA consulted on financial promotion rules for high-risk investments including cryptoassets (CP22/2). Final rules for other high-risk investments excluding cryptoassets (PS22/10) were published in August 2022.  The FCA noted that it would make its rules for cryptoassets once the relevant legislation had been made but that it intended to take a consistent approach to cryptoassets that had been taken to other high-risk investments.
• The Government has now legislated to bring promotions of qualifying cryptoassets within scope of the financial promotion regime. This has been implemented by the Financial Services and Markets Act 2000 (Financial Promotion) (Amendment) Order 2023 (made on 7 June 2023). This follows the Government’s January 2022 consultation response and 1 February 2023 policy statement setting out its approach to regulating cryptoasset financial promotions.
• The definition of ‘qualifying cryptoasset’ that is in scope of the regime is set out in paragraph 26F of Schedule 1 to the Financial Promotion Order (FPO). Very broadly, a ‘qualifying cryptoasset’ is any cryptographically secured digital representation of value or contractual rights that is transferable and fungible, but does not include cryptoassets which meet the definition of electronic money or an existing controlled investment. For simplicity we refer to ‘qualifying cryptoassets’ as ‘cryptoassets’ throughout this article.
• The following controlled activities related to the buying and selling of investments to have been amended to include reference to qualifying cryptoassets.  This means that invitations or inducements to engage in these activities in relation to cryptoassets will be within scope of the financial promotions regime:
  • dealing in securities and contractually based investments
  • arranging deals in investments
  • managing investments
  • advising on investments
  • agreeing to carry on specified kinds of activity
• The Government has introduced a bespoke exemption in the FPO for cryptoasset businesses registered with the FCA under the Money Laundering, Terrorist Financing and Transfer of Funds (Information on the Payer) Regulations 2017 (‘MLRs’). This exemption, set out in Article 73ZA of the FPO, will enable cryptoasset businesses which are registered with the FCA under the MLRs, but which are not otherwise authorised persons (referred to as ‘registered persons’) to communicate their own cryptoasset financial promotions to UK consumers. This exemption is intended to address concerns that requiring financial promotions to be made or approved by authorised persons would significantly restrict, or amount to an effective ban on, cryptoasset financial promotions.  Despite this exemption, new COBS 4.1.7C R (1) means that MLR registered businesses will be treated as authorised persons for certain aspects of the COBS rules including establishing, implementing and maintaining  adequate policies and procedures and complying with the relevant rules on the form and content of financial promotions (including those in COBS 4.12A). The record keeping responsibilities in COBS 4.11 will also have to be complied with. Our previous Engage article on the bespoke exemption is linked here.

PS23/6 summarises the feedback received to CP22/2.  The FCA will proceed with categorising cryptoassets as ‘Restricted Mass Market Investments’ and will apply the associated restrictions on how they can be marketed to UK consumers.  The FCA states that “this categorisation reflects our judgement of the risks cryptoassets pose to consumers. In particular, risks from sudden, large and unexpected losses due to volatility, firm failure, comingling of funds, cyber-attacks and financial crime. Poor quality and misleading promotions, combined with pressure selling tactics, can exacerbate these risks and lead to consumers buying cryptoassets that are not aligned to their risk tolerance and do not meet their needs.”.

Appendix 1 to PS23/6 sets out near final rules to allow firms as much time as possible to prepare for the regime. The FCA expects to confirm final rules shortly.  Subject to exceptional circumstances, the FCA does not expect any further changes to what is published in PS23/6 and the rules will take effect on 8 October 2023.

The FCA states that it will take “robust action” against firms breaching the financial promotion regime for cryptoassets. This will include requesting firms take down websites that are in breach, placing restrictions on firms to prevent harmful promotions and enforcement action. Firms illegally communicating financial promotions to UK consumers will be committing a criminal offence punishable by an unlimited fine and/or 2 years in jail.

Four routes to legally promoting cryptoassets to consumers

There will be 4 routes to legally promoting cryptoassets to consumers:

• The promotion is communicated by an authorised person.
• The promotion is made by an unauthorised person but approved by an authorised person. The Financial Services and Markets Bill which is currently making its way through the UK Parliament will introduce a regulatory gateway that authorised firms will need to pass through to approve financial promotions for unauthorised persons.
• The promotion is communicated by (or on behalf of) a cryptoasset business registered with the FCA under the MLRs in reliance on the exemption in Article 73ZA of the FPO.
• The promotion is otherwise communicated in compliance with the conditions of an exemption in the FPO.

A firm authorised under only the Electronic Money Regulations, or the Payment Services Regulations is not considered an ‘authorised person’ so cannot communicate or approve financial promotions. This is set in legislation and cannot be modified by FCA rules.

Existing exemptions in the FPO will generally apply to promotions of cryptoassets in line with their existing scopes. However, the Article 48 (high net worth individual) and Article 50A (self-certified sophisticated investor) exemptions will not apply to promotions of cryptoassets. This is because these exemptions only apply to promotions relating to a specific set of controlled investments set out in the legislation, broadly investments related to unlisted securities.

The Government has expressly legislated to disapply the Article 51 (Associations of high net worth or sophisticated investors) and Article 61 (Sale of goods and supply of services) exemptions to cryptoassets.

Promotions that are not made using one of these 4 routes will be in breach of section 21 of the Financial Services and Markets Act 2000 (FSMA), which is a criminal offence punishable by up to 2 years imprisonment, the imposition of a fine, or both.

The Government had initially indicated that it would introduce a 6-month transition period to ensure compliance with the regime. The final legislation, however, provides for a 4-month transition.  The FCA states that the reduced transition period reflects recent volatility in the cryptoasset sector and the risks this presents to consumers. The legislation will enter into force on 8 October 2023.

Summary of key changes from the CP22/2 proposals

Risk warnings and associated risk summaries

PS23/6 sets out that the main risk warning for digital medium will be shortened to:

“Don’t invest unless you’re prepared to lose all the money you invest. This is a high-risk investment and you are unlikely to be protected if something goes wrong. Take 2 mins to learn more.”

There are slightly different requirements for non-digital medium including the removal of the link to ‘Take 2 min to learn more’ which is a product specific risk summary. The risk warning and risk summary wording relating to what protections consumers have when investing in cryptoassets will be modified to set out that consumers should not expect to be protected by the FSCS or the ombudsman service if something goes wrong. Firms will be allowed to vary the prescribed risk summary where they have a good reason if for example the wording would be misleading or irrelevant. Equally firms can include any key investment risks that are not covered by the template. Firms must make an adequate record of any divergence from the template and the rationale behind any change. Firms must ensure their risk summary is accurate and stays up to date with market developments and business model changes

Cooling-off period

There will be a minimum 24-hour cooling-off period for first-time investors with a firm.  This will mean that a consumer cannot receive a Direct Offer Financial Promotion (DOFP) unless they have reconfirmed their request to proceed after waiting at least 24 hours.

A DOFP is defined as:

a financial promotion that contains:

a. an offer by the firm or another person to enter into a controlled agreement with any person who responds to the communication; or

b. an invitation to any person who responds to the communication to make an offer to the firm or another person to enter into a controlled agreement

and which specifies the manner of response or includes a form by which any response may be made.

Firms can proceed with other parts of the consumer journey while the cooling-off period ‘applies’ such as KYC/AML checks, client categorisation and the appropriateness assessment. If these other processes take more than 24 hours to complete, firms will not need to introduce an additional pause in the consumer journey. However, the consumer will still need to give their active consent that they wish to proceed with the investment.

Personalised risk warning pop-up

The FCA intends to proceed with applying the personalised risk warning to DOFPs of cryptoassets for first-time investors. For ‘Restricted Mass Market Investments’ (RMMIs), this would appear before a Direct Offer Financial Promotion could be communicated. The FCA states that this is a key element in helping consumers understand the risks of an investment.  The wording is as follows:

“[Client name], this is a high-risk investment. How would you feel if you lost the money you’re about to invest? Take 2 min to learn more.”

Client categorisation

Before a DOFP can be made in relation to a cryptoasset the consumer must be categorised as a Restricted, High Net Worth or Certified Sophisticated investor (the FCA is not permitting DOFPs to be communicated to investors in the category of Self-certified Sophisticated unlike other types of RMMI. This requires the investor to sign a declaration stating that they meet the relevant criteria to be categorised as such. The investor declarations are only valid for a 12-month period. This is to account for changes in life circumstances such as employment losses, which may affect the way in which an individual consumer can be categorised. Firms will need to categorise consumers again after the 12-month period has expired if they wish to make further direct DOFPs.  Consumers must state their income/net assets to confirm they are high net worth and they can provide these figures to the nearest £10,000/£100,000 respectively. The FCA will clarify what level of checks firms should conduct on the information provided by the consumer in the investor declaration.

Appropriateness assessment

Before an application or order for a cryptoasset can be processed in response to a DOFP the firm must assess the specific cryptoasset as appropriate for the consumer. This requires the firm to assess that the consumer has the necessary experience and knowledge to understand the risks involved in relation to the specific product or service offered or demanded. In practice this requirement is often met through an interactive set of questions put to the consumer online, without any human involvement of the firm. The FCA will modify its rules so that consumers must wait at least 24 hours before undertaking the appropriateness test again from their second assessment onward. The FCA will update the guidance on topics firms should cover as part of this assessment.

Consumer Duty

The Consumer Duty applies to authorised firms communicating or approving cryptoasset financial promotions. The FCA will clarify which parts of the Consumer Duty apply given cryptoassets are only within the financial promotion perimeter. The Consumer Duty does not yet apply to financial promotions made by MLR registered cryptoasset businesses.

Banning incentives to invest

The FCA intends to proceed with applying the ban on incentives to cryptoasset promotions. It will not apply the ‘shareholder benefit’ exemption to cryptoasset promotions. Incentives to invest, like ‘refer a friend’, can unduly influence consumers’ investment decisions and cause them to invest without fully considering the risks involved.

Benefits that are intrinsic to the cryptoasset or exclusively bound up with its function and/or business model will not be considered an ‘incentive’. This might include features or benefits that are part of the terms and conditions associated with a particular cryptoasset. For example, cryptoassets that serve to provide the owner with voting rights, and which are used for the purpose of establishing governance arrangements for a particular platform or project would not be considered an incentive.

A benefit that is not intrinsic to the cryptoasset, or exclusively bound up with its function or business model, which is used to motivate a consumer to buy that cryptoasset is likely to be considered an incentive. For example, offering additional ‘free’ cryptoassets or where a feature or benefit is only available for a limited time period. On 2 June 2023, the FCA published a consultation on additional guidance and targeted amendments to the scope of this ban for all promotions of RMMIs and non-mass market investments (NMMIs). These proposals will also be relevant to promotions for cryptoassets. The FCA welcomes responses from firms operating in the cryptoasset sector to these proposals by 10 July 2023.

Record keeping requirements

The FCA intends to proceed with applying the record keeping requirements relating to client categorisation and appropriateness assessments to financial promotions for cryptoassets. assessment requirements.  The FCA clarifies that it is not mandating that firms record other metrics, such as whether consumers access the risk summaries linked to from the risk warnings but it would encourage firms to consider voluntarily recording this data.

FCA Guidance Consultation (GC23/1)

Alongside PS23/6, the FCA also published Guidance Consultation 23/1 (GC23/1).  This consultation seeks feedback on proposals for guidance on how the FCA approaches, and how firms comply with, the FCA’s requirement that cryptoasset financial promotions must be fair, clear and not misleading.

Although GC23/1 is relevant to all firms marketing cryptoassets to retail consumers in the UK, it has a particular focus on cryptoassets and related models/arrangements that can cause significant consumer harm. For example, cryptoassets that claim to be stable. 

There is also a chapter setting out further discussion questions on complex yield cryptoasset models/arrangements such as borrowing, lending and staking to inform the FCA’s future regulation of these activities.

The purpose of the discussion questions set out in GC23/1 is to better understand how cryptoasset borrowing, lending and staking models/arrangements currently operate in the industry and the benefits of these models/ arrangements and their risks.

The FCA is looking to work collaboratively with the cryptoasset sector to develop future regulation in this area. It is seeking industry input by 10 August 2023 and intends to publish final guidance in autumn 2023.

Next steps

All firms marketing cryptoassets to UK consumers, including those based overseas, must start preparing for the implementation of the financial promotions regime for cryptoassets. 

If firms intend to continue marketing to UK consumers once the regime comes into force they must consider which of the 4 routes they will use to lawfully communicate their promotions and how they will meet the relevant requirements of that route.

Firms intending to apply for registration with the FCA under the MLRs should consider the detailed requirements of the anti-money laundering and counter-terrorist financing (AML/CTF) regime and should also review information regarding good and poor quality applications before submitting an application. Authorised firms considering approving cryptoasset financial promotions should notify the FCA of their intention in line with Principle 11 (relations with regulators). Further detail on the FCA’s approach to MLR registered cryptoasset businesses communicating financial promotions are set out in Chapter 5 of PS23/6.

The FCA is encouraging responses to its Guidance Consultation by 10 August 2023 and intends to publish the Final Guidance in Autumn 2023.

We will be keeping a close eye on further developments in this rapidly evolving area. Please contact our specialist Global Digital Assets and Blockchain Practice who would be happy to provide further advice and guidance.  

Authored by Lavan Thasarathakumar, Mark Orton, and Melanie Johnson.