The popularity of cryptocurrencies and other cryptoassets continues to grow. Major brands like PayPal now include the facility for users to buy, sell and hold selected cryptoassets, while the pandemic has provided additional impetus, as consumers move to virtual payments and society becomes more cashless. Non-fungible tokens (NFTs) have emerged - to a huge fanfare from artists, celebrities and influencers - particularly as a means of selling digital art. At the same time, many more brands are experimenting in the space, often for PR purposes, and as we start to move into the virtual worlds of the metaverse, we will no doubt be carrying crypto wallets with us.
But, what are the regulatory implications, in the UK, for brands and firms promoting cryptoassets, either as their core business or simply to create a marketing buzz around their more traditional products and services?
Financial promotions of unregulated cryptoassets (e.g. cryptocurrencies such as Bitcoin and Ethereum, utility tokens and exchange tokens - access our earlier article on the legally recognised cryptoassets in the UK), have, to date, largely been governed by the Advertising Standards Authority ("ASA"). In fact, crypto ads have rocketed to the top of the ASA's priority list, prompting a crackdown on irresponsible advertising. Then, earlier this month, Her Majesty's Treasury ("HMT") announced plans to strengthen rules on cryptoasset advertisements and further protect consumers from misleading claims by making promotions of 'qualifying cryptoassets' subject to the UK Financial Promotions Regime, governed by the Financial Conduct Authority ("FCA"). Now, the FCA has published a consultation on its proposals to strengthen financial promotion rules for high risk investments, to include qualifying cryptoassets.
In this Insight, Dan Smith, Director and Head of Advertising, and Sushil Kuner, Principal Associate in our Financial Services Regulatory team, explore the ASA approach to the advertising of cryptoassets to date and the potential implications of the new UK Government proposals.
The story so far
The promotion of unregulated cryptoassets may not - yet - be regulated by the FCA in the UK but that does not mean that advertisers have been able to operate free from regulatory constraints. Cryptoasset advertising remains subject to the codes of advertising standards administered by the ASA, through the UK's self-regulatory system.
That being said, the explosion in adverts for cryptoassets - reports suggest they hit record levels on the London transport network in 2021 - has led to high numbers of complaints about responsibility in cryptoasset advertising. In November last year, the ASA put out a statement citing the advertising of cryptocurrencies and NFTs as a "red alert priority issue" and launched investigations into a number of adverts across different media. Importantly, this action concerned advertising for legal cryptoassets and stands apart from the ASA's work on scams - all businesses marketing cryptoassets, directly or indirectly, need to take heed of the ASA's work in this area.
The ASA's investigations led to a raft of published adjudications before Christmas and into January of this year, ruling on crypto advertising by both specialist firms and brands dabbling in the field. The ASA has also published guidance and signalled its intention to continue to proactively monitor the market and enforce against non-compliant crypto adverts.
So what has the ASA found to date, in its rulings on crypto ads?
Advertisers "must clearly state that cryptocurrency is not regulated, so that potential investors are aware that they would not be subject to protections afforded by either the Financial Ombudsman Service or the Financial Services Compensation Scheme". Numerous businesses have failed to make this clear or have failed to make it clear in a way which is sufficiently prominent - hiding the information in illegible small print or flashing it on screen for less than a second will not be enough to ensure compliance.
The ASA has also ruled that multiple crypto adverts took advantage of consumers' inexperience or credulity; for example by failing to ensure that financial information could be readily understood and the investment risk was sufficiently clear. Some advertisers have been found to trivialise investment. These issues have caught out both businesses promoting the trading of cryptoassets as a core service offering and, notably, well known brands linking cryptocurrency to their traditional products and services. For example, the ASA considered that a promotion offering free Bitcoin, when customers bought Papa John's pizza, encouraged customers to engage in high risk investment activity without due consideration and trivialised what was a serious decision. In essence, it was irresponsible to use cryptocurrency to incentivise an inexperienced audience to buy more pizza (though the absence of any risk warnings did not help the brand).
More specifically, the ASA has established that businesses must make it clear that Capital Gains Tax may be payable on investment profits, when advertising their crypto offerings.
A particular risk for brands promoting crypto outside of their usual business is failing to make it clear that a token or asset is a cryptoasset in the first place. In a ruling against Arsenal FC, the ASA ruled that the football club should have made clear that its 'Fan Token' - a utility token - was a form of cryptoasset. Brands would be wise to err on the side of providing more information, rather than less, regarding the nature of assets as cryptoassets, as - at the current time - the ASA is unlikely to infer that consumers have a great deal of existing knowledge about the different types of cryptoasset.
Beyond this, the ASA has also applied its usual rules around the need to:
- make it clear that the value of investments can go down as well as up;
- provide information on the basis for projections and forecasts (not to simply state a level of earnings or yield without further explanation) and ensure that these are substantiated with robust evidence; and
- make it clear that past performance is not a guide for future performance.
Much of this can be resolved with appropriate short form terms and conditions attached to different cryptoasset advertising. Clearly the length of these terms may vary, depending on the particular media and the applicable space constraints. However, we would urge caution - if the media does not permit the appropriate risk warnings, then it may well be unsuited to advertising of cryptoassets. Broader issues around responsibility - for example, trivialising the risks of investment - may demand more extensive changes to advertising concepts and materials, particularly where brands are looking to use cryptoassets as part of their promotions.
Given the ASA's current focus on advertising in this area, businesses would be well advised to revisit their clearance and compliance processes and ensure that their crypto advertising receives an appropriate regulatory review before publication.
So, why the need for intervention from the Government?
The Government established the Cryptoassets Taskforce ("the Taskforce") in March 2018, consisting of HMT, the FCA and the Bank of England. It was tasked with exploring the potential impact of cryptoassets in the UK. In October 2018, the Taskforce published a report, assessing the potential benefits of cryptoassets and the underlying distributed ledger technology (DLT) and stating that all three authorities would continue to support innovation. However, the Taskforce also identified risks that cryptoassets pose to consumers, and misleading advertising and a lack of suitable information as a key consumer protection issue in cryptoasset markets.
Since this report, FCA research has shown that the cryptoasset market has continued to evolve and grow, with UK cryptoasset ownership having risen over the years. This research also found that adverts play an important role in consumer purchasing behaviour, despite repeated warnings to consumers that they should be prepared to lose all of their money when investing in cryptoassets. HMT considers that legislating to bring qualifying cryptoassets within the scope of the UK Financial Promotions Regime would further enhance consumer protection in the cryptoasset market.
Section 21 of the Financial Services and Markets Act 2000 ("FSMA") contains a financial promotion restriction which is broad in scope and provides that a person must not, in the course of business, communicate an invitation or inducement to engage in investment activity ("a Financial Promotion")("the Restriction").
'Engaging in investment activity' is defined in section 21(8) of FSMA as:
- entering or offering to enter into an agreement the making or performance of which by either party constitutes a controlled activity; or
- exercising any rights conferred by a controlled investment to acquire, dispose of, underwrite or convert a controlled investment.
'Controlled activity' and 'controlled investment' are defined in Schedule 1 to the FSMA (Financial Promotions) Order 2005 ("the FPO") and go wider than regulated activities for which authorisation by the FCA is required under FSMA before they can be carried on. As such, the Restriction includes invitations or inducements to engage in certain activities which are not regulated activities. So, for example, a person may not necessarily be carrying on a regulated activity requiring authorisation when issuing bonds but the marketing of bonds is likely to be subject to the Restriction.
However, the Restriction does not apply if:
- the communication is made by an FCA authorised person;
- the content of the communication is approved by an FCA authorised person; or
- the Financial Promotion otherwise meets the conditions of an exemption within the FSMA (Financial Promotion) Order 2005 ("the FPO").
Communicating a financial promotion in breach of section 21 of FSMA is a criminal offence and the government has made clear its plans to legislate to extend the list of controlled investments in the FPO to cover 'qualifying cryptoassets'. As such, anyone communicating a Financial Promotion in relation to a qualifying cryptoasset will be committing a criminal offence unless that person is authorised by the FCA, the Financial Promotion is approved by an FCA authorised person or the Financial Promotion benefits from an exemption in the FPO. The ASA's primary sanction is to rely on the bad publicity which flows from the publication of an upheld ASA complaint ruling (though it can refer matters out to Trading Standards, who have a greater range of sanctions available) - the move to FCA regulation therefore represents a significant raising of the stakes when it comes to non-compliance.
Unless a Financial Promotion is exempt under the FPO, when communicating or approving Financial Promotions of qualifying cryptoassets, FCA authorised firms will be required to comply with the FCA's proposed Financial Promotion rules for a new category of 'Restricted Mass Market Investments'. These rules include the basic requirement that Financial Promotions must be 'fair, clear and not misleading'. In addition, mass marketing of cryptoassets to retail consumers will be permitted, subject to meeting the requirements of the Financial Promotion rules for this category of investment. This includes enhanced risk warnings and a complete ban on inducements to invest. However, 'direct offer Financial Promotions' (which, in general terms, specify how consumers should respond or include a form to respond) can only be made if certain requirements are met, such as firms complying with the FCA's proposed rules on positive frictions in the customer journey, client categorisation and enhanced appropriateness assessments.
Under the proposed rules, direct offer financial promotions can only be made to investors categorised as 'restricted', 'high net worth' or 'certified sophisticated'. Restricted investors must sign a declaration to say they have not invested in the last 12 months, and will not invest in the next 12 months, more than 10% of their net assets in 'Restricted Mass Market Investments'. Unlike current rules for 'Non Readily Realisable Investments', direct offer financial promotions will not be permitted to be communicated, or approved for communication, to 'self-certified sophisticated' investors. The FCA has made clear that it only wants consumers to access cryptoassets knowingly, and after they have been assessed as having sufficient knowledge and experience to understand the risks involved.
It should also be noted that HMT is separately legislating to introduce a new regulatory gateway for firms approving financial promotions for unauthorised firms ("the Section 21 Gateway") which will impose a new requirement on authorised firms to only approve financial promotions for unauthorised persons if they have been assessed by the FCA as suitable to do so. This should further ensure the overall quality of all Financial Promotions, including those in respect of qualifying cryptoassets.
What are 'qualifying cryptoassets'?
The scope of 'qualifying cryptoasset' set out by HMT in its consultation paper is provisional and subject to change before the statutory instrument is laid before Parliament. However, it is currently defined as "any cryptographically secured digital representation of value or contractual rights which is fungible and transferable."
To ensure appropriate scope, the government has made clear that there will be a transferability exclusion which will exclude from the regime tokens such as travel passes, lunch passes and supermarket loyalty schemes that are cryptographically secure. Tokens with these characteristics do not typically give rise to consumer protection risks. Similarly, non-fungible tokens ("NFTs") will also be carved out on the basis that they are typically tokenised representations of unique digital items such as a photo or video. NFTs can also be used as tokenised ownership of an array of other assets such as art, music or online gaming tokens. These were carved out because fungibility, a core characteristic of a range of regulated financial services products (such as securities), is a characteristic which makes a cryptoasset significantly more likely to give risk to consumer protection concerns. Unlike fungible assets which can generally be sold more easily and quickly, the sale of NFTs typically depends on the utility or unique value it gives the holder.
In addition, it appears that HMT intends to exclude from 'qualifying cryptoassets', electronic money under the Electronic Money Regulations 2011 and central bank money, as well as cryptoassets that are only transferable to one or more vendors or merchants in payment for goods or services.
Of course, where cryptoasset advertising in the UK does not relate to a 'qualifying cryptoasset' - NFT advertising for example - it will still be subject to the ASA regime. In fact, the ASA is likely to retain a role in relation to 'qualifying cryptoassets' as well - for example, it has remit over financially related broadcast advertising and retains responsibility for the "non-technical" aspects of financial services advertising in other media (including issues around offence and social responsibility). Familiarity with both the FCA and ASA regimes will likely be required in the future, if crypto advertisers are to avoid censure and sanctions.
We have deep expertise to assist from both an ASA / FCA perspective - get in touch with Dan Smith or Sushil Kuner for more.