Regulatory uncertainty surrounding crypto asset lending in Canada

Over the past year, eight crypto asset trading platforms (“CTP’s’) have been regulated as securities dealers in Canada. These CTPs operate online platforms that allow Canadian residents to buy, sell, and hold crypto assets. In contrast, no crypto asset service providers offering savings or lending products are registered under the securities laws or other regulatory framework in Canada.

Each CTP registered as a Securities Dealer operates under the terms of a tailored exemption order (each a “CTP order[1]) granted by the Canadian Securities Administrators (CSA), including the requirement that the CTP not list any crypto assets that are securities or derivatives. Crypto assets such as bitcoin, ether and other large cap, high volume crypto assets that are commonly considered commodities are available on these CTPs.

You may be wondering: if these CTPs are not authorized to list crypto assets that are themselves securities or derivatives, why were they required to register under securities laws in the first place? The answer is somewhat technical but very important in understanding the regulatory framework for crypto asset service providers in Canada and why there is ongoing regulatory uncertainty surrounding crypto asset lending activity.

CTP Regulatory Framework

In two personnel announcements published in January 2020[2] and March 2021[3] (the “personnel notifications’), the staff of the CSA took the position that if a CTP does not promptly deliver the crypto assets it sells to its customers (thus losing ownership, possession and control of the crypto assets from inception and beyond pass to the customer). CTP involvement is not required), then the contract between the CTP and its clients is itself treated as a security or derivative, which employees call “crypto contract“.

As a result, CTPs that offer clients custody services for the crypto assets bought and sold on their platforms pursuant to the personnel notices must register as dealers under securities laws and obtain a prospectus waiver for the crypto contracts they issue to clients. The personnel notices, along with the release orders issued to the eight prison sentence CTPs previously registered in Canada, constitute a new regulatory framework for CTPs in Canada (the “CTP Regulatory Framework“).

crypto lenders

In addition to spot crypto trading, Canadian residents can access numerous other crypto-asset-related services through online platforms, including crypto-asset-backed loans, as well as savings accounts that offer holders the opportunity to earn interest or income by depositing their Earn crypto assets with the platform. For the purposes of this post, these platforms will be referred to as “crypto lenders“. While some crypto lenders also offer crypto asset trading services, many do not.

The Staff Notices only focus on platforms offering both trading and custody; There is no mention of savings accounts or credit products. Likewise, none of the registered CTPs offer savings and loan products. As a result, these companies continue to operate in an environment of regulatory uncertainty in Canada.

In order for the CSA to exercise jurisdiction over crypto lenders, those entities would need to offer services that qualify as securities or derivatives in one or more CSA jurisdictions. So far, only spot platforms offering buy, sell and hold services are considered crypto contract issuers under the CTP regulatory framework.

In some CSA jurisdictions, such as B. Ontario, the definition of collateral includes “proof of indebtedness” with specific exceptions for deposit accounts with regulated financial institutions and insurance contracts issued by regulated insurance companies. It is possible that a savings account offered by a crypto lender could be taken as evidence of the lender’s indebtedness, however this would depend on the specific contractual arrangements between the crypto lender and its customers. Such contractual arrangements could also be interpreted by regulators as analogous to “investment contracts” and ultimately regulated in this way

In other CSA jurisdictions, such as Quebec, the definition of collateral includes “an instrument evidencing a loan of money” and “a deposit of money,” with exceptions for various types of debt instruments and “a deposit of money within the meaning of the Depository Institution and Deposit Insurance Act.” Since crypto-assets are not recognized as legal tender or currency in Canada, strong arguments can be made that evidence of the lending of crypto-assets and escrow of crypto-assets do not fall under this part of the definition of “security”. It is therefore unclear whether crypto lenders issue or deal in products and services that are regulated as securities or derivatives throughout the CSA.

In addition, deposit-taking institutions have traditionally been regulated as banks, trust companies, credit unions, or similar financial institutions under the supervision of the Federal Office of the Superintendent of Financial Institutions (OSFI) or provincial and territorial regulators in Canada. In general, deposit-taking institutions are regulated by laws and regulations and are overseen by regulators separate from the capital markets regulations applicable to securities and derivatives. This capital markets regulation is regulated by the members of the CSA.[4]

As the Staff Notices and CTP Orders show, the CSA is seeking a harmonized approach to regulating crypto assets in Canada. We believe the CSA has a good understanding of the activities of crypto lenders and considers the extent to which they can or should be regulated by securities or derivatives laws. We anticipate that the CSA will also recognize the potentially overlapping responsibilities of OSFI and provincial regulators and the need for simplified regulation to minimize burden and encourage innovation in Canada.

Registration of money service companies

Crypto asset service providers may also be regulated as money services businesses (“MSBs) in the category of Virtual Currency Dealer in Canada, under the federal regime administered by the Financial Transactions and Reports Analysis Center of Canada (FINTRAC) and/or the Quebec regime administered by Revenu Canada.

For the purposes of MSB registration, virtual currency trading includes the provision of virtual currency exchange services and/or virtual currency transfers (e.g. wire transfers). While some crypto lenders may offer virtual currency exchange and/or wire transfer services, many do not. Additionally, MSBs based outside of Canada are only required to register with FINTRAC as foreign MSBs if they are directing services to Canadian customers and provide these services to customers in Canada.

FINTRAC offers specific guidance in relation to when a foreign MOS provides “services” to Canadians, such as B. Marketing or advertising directed at individuals or organizations based in Canada, operating a “.ca” domain name or listing the business in a Canadian business directory. FINTRAC provides a non-exhaustive list of additional indicia on its website, including offering products or services in Canadian dollars and soliciting feedback from Canadian customers.

As such, the extent to which a crypto lender based outside of Canada may be required to register as an MSB is very fact specific. While Revenu Quebec has not published any policy on the subject, Quebec’s analysis is similarly fact-based.

Persistent regulatory uncertainty

While the CTP registration framework has helped bring clarity to CTPs offering buy, sell and hold (custodial) services, and MSB’s virtual currency trader category has brought clarity to crypto asset swaps and remittance operations, remains the regulatory landscape for crypto lenders is uncertain in Canada.

In addition, eight custodial CTPs have registered under the CTP registration framework, but dozens of other CTPs located inside and outside of Canada continue to provide trading services in Canada without being registered as securities dealers.

Many CTPs and crypto lenders are actively working with the CSA on the application of securities and derivatives laws to crypto savings and lending products. As stated in the Staff Notices, the CSA seeks to address investor protection concerns with the aim of supporting financial innovation in Canada.

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