Is crypto regulated in the UK? (An overview of financial regulation of crypto in the UK)
James Kaufmann, 21 June 2022
Crypto. Blockchain. Stablecoins. NFTs. DeFi. The always fast-moving world of finance is expanding at an ever-increasing pace. Within this maelstrom of innovation, what are the financial regulatory implications? Is regulation keeping pace, playing catch-up or barely even aware that the world is (allegedly) not flat?
The topic is vast and a moving target. As such, the following guide is not an exhaustive or detailed review. Rather, it is intended as a “what you need to know” introduction to the UK financial regulatory treatment of crypto.
Is crypto regulated in the UK? Broadly, no. But at the same time, yes. Some types of crypto are regulated in the UK under the “traditional” financial regulatory framework.
As set out below, there are a handful of touchpoints where crypto and related decentralised financial tools and products are brought within the UK financial regulatory perimeter. But, as at the date of this post (June 2022), there is no centralised (excuse the pun) approach to the UK’s financial regulatory treatment of crypto. This is largely due to how difficult it is to pin down what we mean by “crypto” given the requirement of UK financial regulation to clearly define a specific asset (or investment) before it can come under the regulatory umbrella. However, there are specific rules governing aspects of crypto in the UK under the anti-money laundering (AML) and counter-terrorist financing (CTF) rules, which are considered further below.
Among the UK government and regulatory bodies, their preferred term for crypto is “cryptoassets” (even though, or perhaps because, no one “on the ground” uses the term “cryptoassets”). It is important to understand what the “Powers That Be” consider to be in the ecosystem. “Cryptoasset” is defined in UK legislation as “a cryptographically secured digital representation of value or contractual rights that uses a form of distributed ledger technology [i.e. blockchain] and can be transferred, stored or traded electronically“.
In practical terms, the regulatory authorities in the UK (including the FCA, the PRA, the Bank of England and HM Treasury) sub-divide the world of crypto and tokens in to the four classes set out below. But there is inevitably a degree of crossover amongst these four categories. Any token that is not a security token or an e-money token is an unregulated token. This includes utility tokens and exchange tokens (that are neither e-money nor security tokens).
|Exchange tokens||Tokens that are used as an alternative to fiat currency (e.g. Bitcoin) fall outside the UK financial regulatory perimeter. This means that activities involving the transfer, purchase and sale of exchange tokens, including the commercial operation of cryptoasset exchanges for exchange tokens, are not regulated activities for the purposes of the FCA. For example, an exchange that simply facilitates Bitcoin transactions will not be carrying on regulated activities. However, such activities may fall within the scope of the UK AML and CTF regime (see below).||Not generally regulated in UK, unless considered e-money|
|E-money tokens||Tokens that enable users to make payment transactions with third parties (so must be accepted by more parties than just the issuer) are “electronic money” and regulated by the FCA under the e-money regime. E-money includes fiat balances in online wallets or prepaid cards, and using tokens using blockchain to represent fiat funds. But cryptoassets that establish a new unit of account, instead of representing fiat, are unlikely to be e-money unless the value is pegged to fiat currency (for more about stablecoins, see below).||Regulated in the UK under the E-money regime|
|Utility tokens||Tokens that provide consumers with access to a current or prospective product or service and often grant rights similar to prepayment vouchers fall outside the UK financial regulatory perimeter. Examples include types of loyalty reward schemes and “in game” tokens.||Not generally regulated in UK, unless considered security tokens|
|Security tokens||Tokens that provide rights and obligations similar to “traditional” investments (such as a right of ownership (voting) or entitlement to a dividend) are within UK financial regulatory perimeter. The FCA considers security tokens similar to (for example) shares or bonds, and any activity relating to security tokens that has any UK nexus potentially exposes stakeholders and/or market participants to the UK financial regulatory regime.||Regulated in the UK under Part IV of FSMA|
Cryptoassets that are unregulated, fall outside the UK’s financial regulatory perimeter. There is no protection for individual investors who choose to buy them and use them as a means of payment or exchange. The FCA does not regulate the sale or transfer of exchange tokens or intervene on behalf of consumers who lose their investments, with the exception of the application to cryptoasset business of the AML and CTF regime (discussed below).
Under the MLRs, the FCA is the AML and CTF supervisor for cryptoasset service providers in the UK, such as cryptoasset exchanges, custodian wallet providers and crypto ATMs. Such cryptoasset businesses are required to register with the FCA (following which they are listed on its cryptoasset register) in order to operate in the UK. As part of the registration process under the MLRs, a cryptoasset business must demonstrate that it has policies, controls and procedures in place to effectively manage money laundering and terrorist financing risks proportionate to the size and nature of the business’ activities. Whilst registration under the MLRs is not an application for authorisation (as is needed to operate as an issuer of security tokens or an e-money licence), it is not a formality. The FCA have set the bar of their expectations very high and displayed reticence to grant applications under this regime.
 James Kaufmann is a partner at the law firm Howard Kennedy LLP.
 This approach comes from the EU rules such as MiFID. Whereas other regimes, for example the SEC in the US, do not seem to be enslaved to taxonomy. Consider the SEC’s “Howey Test” which (essentially) says that if you are investing in something in expectation that you’ll make money, it is likely to be regulated. (In the fast-paced world of innovation the Howey Test provides an admirable degree of pragmatism and flexibility. Some refer to it as the “Duck test” (i.e. if it looks like a duck and quacks like a duck…).)
 The Money Laundering, Terrorist Financing and Transfer of Funds (Information on the Payer) Regulations 2017/692 (MLRs), Regulation 14A(3)(a)
 The FCA considers exchange tokens akin to other assets/asset classes that remain outside the regulatory perimeter (e.g. wine, whisky or art) that may be speculated upon to generate profit if they rise in value.
 The e-money regime is different to the investment (or Part IV) regime which covers security tokens. E-money is about facilitating payments and transferring value, whereas the investment regime is concerned with investing in an asset class in order to make a profit. These different drivers manifest in different sets regulatory frameworks and approaches.
 The FCA considers utility tokens akin to reward-based crowdfunding; where participants contribute funds to a project in exchange for some promise or chance of reward (for example, access to products or services at a discount).
 The UK’s financial services regulatory regime is “technology neutral”. Accordingly, the requirement to have the appropriate authorisation or registration applies regardless of the underlying technology.
 In doing so, the FCA has (in the opinion of the author) effectively prevented the emergence of the UK as a destination of choice for many crypto businesses. On the one hand, this could be seen positively as a protection of consumers from a disruptive and immature market. On the other hand, it could be seen as a myopic and foolhardy approach which is deaf to the drum of progress and consigns the UK to being pariah in the financial ecosystem.