By Leon Yee, Yeo Ming Ze and Brian Yang
MAS issued a consultation paper on proposed regulatory measures for licensed and exempt digital payment token service providers (“DPTSPs”) on 26 October 2022. After taking into account public feedback, MAS’ final regulatory approach to DPTSPs was published on 23 November 2023. MAS will publish guidelines in mid-2024 to set out its expectations for DPTSPs as a first step to implementing the regulatory measures (“Guidelines”). DPTSPs will be given a 9-month transition period to meet the Guidelines.
1. Consumer Access Measures
Consumer access measures help to lower the risks that consumers face when investing in DPTs via risk awareness assessments and restrictions on certain types of DPT transactions.Scope
Consumer access measures will only apply to retail customers, which are customers who are not accredited investors or institutional investors. The definitions of the different types of investors that are to be set out in the Guidelines will be aligned with the Securities and Futures Act 2001 (“SFA”).
In relation to accredited investors, an “opt-in” regime will be imposed, similar to the SFA. This means that all customers are by default retail customers and if the customer meets the criteria of an accredited investor, he/she will have a choice of whether he/she wants to be an accredited investor or not. This helps to ensure that each customer is fully aware of his/her status as an investor when he/she invests in DPTs.
Section 4A(1)(b) of the SFA defines an “expert investor” as (i) a person whose business involves the acquisition and disposal, or the holding, of capital markets products, whether as principal or agent; (ii) the trustee of such trust as MAS may prescribe, when acting in that capacity; or (iii) such other person as MAS may prescribe. There will not be a separate category of “expert investor” for DPTs. MAS has clarified that this is because DPTs have no economic fundamentals and are highly volatile. A classification of an investor as an “expert” in DPTs would not be in line with this view. Moreover, it is unlikely that an expert investor, who acquires and disposes DPTs or acts as trustee of DPTs, would be able to overcome the huge losses should a DPT market crash ensue. It thus does not make sense to label any investor in DPTs as an “expert investor”.
Consumer access measures will apply to all retail consumers, meaning retail consumers both in Singapore and outside Singapore. The reason is because DPT transactions are cross-border in nature with no distinction between local and foreign consumers. Such measures that cover all retail consumers would ensure that DPTSPs who operate in Singapore but serve foreign retail consumers are caught within the ambit of the new regulations.
Treatment of DPT Holdings in Determining Accredited Investor Eligibility
DPT holdings can be used to determine accredited investor eligibility. However, the amount of DPTs used in accredited investor determination would be limited and set at:
i. the DPT valuation after applying a haircut of 50%; or
ii. S$200,000,
whichever is lower.
The reason for the haircut is that DPTs are highly volatile in nature and a haircut would ensure that the valuation of the DPTs is more accurate. An overall cap was also imposed to make sure that investors do not use too much DPT value to count towards accredited investor eligibility requirements given the highly volatile nature of DPTs.
Risk Awareness Assessment
DPTSPs would have to assess whether a retail consumer has sufficient knowledge of the risks of DPT services. DPTSPs would have to enact internal policies to ensure that the assessment is fair and holistic. The risk assessment must not trivialise the risks involved or promote any product.
For retail consumers with insufficient knowledge, DPTSPs should conduct a re-assessment. However, prior to the re-assessment, DPTSPs should facilitate the improvement of the customer’s knowledge of risks in DPTs through methods like provision of educational materials etc.
New risks could emerge in the future in relation to DPTs. Accordingly, DPTSPs are expected to have in place processes to review and update the assessment and assess whether retail consumers would require an updated assessment. For example, a modular system could be used where retail consumers would just need to be assessed on the newer modules instead of taking the entire assessment again.
Restrictions on Offering of Incentives
DPTSPs are not allowed to offer incentives, whether monetary or not, to retail customers to sign-up for, refer or trade DPTs. This includes “learn and earn” programmes where customers earn free DPT credits that can be used for trading after attending an educational session on DPTs.
The reason for restricting incentives is that the incentives could unduly influence retail consumers to invest in DPTs without being fully cognisant of the risks involved.
Restrictions on Debt-Financed and Leveraged DPT Transactions
DPTSPs cannot:
(i) provide to a retail customer any credit facility to facilitate retail customers’ purchase or continued holdings of DPTs; and
(ii) enter into any leveraged DPT transaction with a retail customer or facilitate a retail customer’s entry into any leveraged DPT transaction with any other person.
Such transactions would include margin trading, DPT futures, options and other derivative transactions.
The reason for the above measures is to ensure that retail consumers do not exacerbate financial risks by taking on leveraged positions or debt given that
DPTs are already highly volatile by nature.
Regarding credit card and charge card payments, MAS will not allow DPTSPs to accept credit card or charge card payments, except from foreign-issued credit cards or charge cards. The reason for the leeway for foreign-issued credit cards is that foreign retail consumers might have limited payment options compared to a local retail consumer. We believe that Singaporeans who hold foreign-issued credit cards would not be permitted to purchase DPTs in the spirit of the law.
2. Business Conduct Measures
Identification and Mitigation of Conflicts of Interest
DPTSPs and their related entities should not trade on markets that they operate, unless for the purposes of matched principal trading. This is because there is an incentive for the DPTSP to misuse information from customers’ orders on its market for the DPTSP’s own trading benefit.
When a DPTSP simultaneously operates a market and acts as a broker, there should be separate legal entities for each function and clear client disclosures. This is to ensure that the DPTSP performs its role as a broker independently to source the best terms across markets/platforms as there could be bias when the DPTSP itself is also a market operator.
When a DPTSP acts as a broker and transacts on its own account, there should be proper functional segregation (e.g., separate reporting lines), effective Chinese walls and clear disclosures to clients. This is because there is an incentive for the DPTSP to front run customer orders.
In general, the approach that MAS takes towards management of conflicts of interest is disclosure-based. DPTSPs should hence disclose: (i) potential conflicts and risks; (ii) specific steps and measures that address the risks and conflicts; and (iii) proprietary holdings of any tokens at the point of token listing on its own trading platform. DPTSPs could also disclose the quantum of proprietary holdings and provide periodic updates to ensure transparency as there is a risk that DPTSPs could influence the value of its own proprietary holdings on its own market.
Disclosure of DPT Listing and Governance Policies
Disclosure of DPT listing and governance policies is important because this helps consumers to understand the process that DPT trading platform operators undertake to assess DPTs listed on their platforms and the adequacy of said process.
DPTSPs must publicly disclose their listing and governance policies for tokens listed and offered on their markets and trading platforms. All DPTSPs should assess whether they have provided sufficient and understandable information to allow customers to make informed decisions. Senior managers are expected to take responsibility for the DPTSP’s listing and governance policies.
Complaints Handling
DPTSPs must have complaints handling policies and procedures like appointing an independent committee of members to oversee complaints. DPTSPs are expected to monitor complaints, such that complaints are resolved in a fair and timely manner. Complaints information should also be provided to MAS when requested. The department in charge of complaints has to be independent — that is, separate from the business department providing the DPT services.
3. Measures Relating to Managing Technology and Cyber Risks
These measures help to ensure recoverability of IT systems should they crash, which limits the impact on DPT holders.
DPTSPs are required to:
(a) put in place a framework and process to identify critical systems;
(b) ensure that the maximum unscheduled downtime for each critical system does not exceed a total of 4 hours within any period of 12 months;
(c) establish a recovery time objective of not more than 4 hours for each critical system;
(d) notify MAS as soon as possible, but not later than 1 hour, upon the discovery of a system malfunction or IT security incident, which has a severe and widespread impact on the DPTSP’s operations or materially impacts the DPTSP’s service to its customers, and submit a root cause and impact analysis report to MAS within 14 days; and
(e) implement IT controls to protect customer information from unauthorised access or disclosure.
Conclusion
These measures by MAS are a step in the right direction to protect consumers from the risks of investing in DPTs. However, as society and technology progress and global DPT regulation becomes more developed, MAS’ measures may have to be further tweaked to cater to societal changes. For example, the limit on DPT holdings used to determine accredited investor eligibility could be increased should DPTs become recognised as a more mainstream form of investment vehicle in society. As the public becomes more acquainted with the functioning of DPTs and the associated risks, debt and leveraged finance could be a possible method of funding DPT purchases, albeit with proper risk disclosures and limits on the amount of leverage a customer may take. With respect to DPT purchases using credit cards, MAS makes a point regarding the financial risks associated with easy credit and high interest rates should a purchaser face a delay in making payment when using credit to purchase an inherently volatile DPT. However, one may argue that the limits on credit card usage and income requirements to own a credit card could partially mitigate such risks in the first place.
For More Information
If you have any questions about this article, please contact Duane Morris & Selvam Chairman Leon Yee or Associates Yeo Ming Ze or Brian Yang if you would like to discuss this update.
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