Regulation of Non-Fungible Tokens in Hong Kong

On June 6, 2022, the Securities and Futures Commission (“SFC”) issued a circular entitled “SFC reminds investors of risks associated with non-fungible tokens” (“NFT Regulation Circular”). This circular sets out the risks associated with non-fungible tokens (“NFTs”) and the SFC’s position on the types of NFTs that fall within its regulatory remit and reminds the public that marketing, distribution or offering of NFTs may trigger licensing or authorization requirements. In this article, we provide an overview of the regulatory landscape of NFTs in Hong Kong. If you’d like more information, please contact one of our DLT & Fintech lawyers.

In June, 2022, the Securities and Futures Commission issued a circular (“NFT Regulation Circular”) reminding investors of risks associated with non-fungible tokens (“NFTs”).

The NFT Regulation Circular serves 2 purposes. First, it summarizes some of the key risks for investors dealing in NFTs, including the risk of illiquidity, volatility, opaque pricing, hacking and fraud. Secondly, it sets out the SFC’s position on the extent to which Hong Kong securities laws may apply to NFTs.

Securities

The NFT Regulation Circular cautions that NFTs may fall within the definition of “securities”, particularly to the extent that they may fall within the definition of a “collective investment scheme”. Under the Securities and Futures Ordinance, a “collective investment scheme” means “an arrangement in respect of any property” which meets 3 conditions:

• the persons participating in the scheme do not have day-to-day control over the management of the scheme’s property;
• the property is managed as a whole by or on behalf of the person operating the arrangements and/or the contributions of the participants and the profits or income from which payments are made to them are pooled; and
• the purpose of the arrangement is for participants to receive payments or returns from the acquisition, holding, disposal, or management of the property, or the exercise of any right in or the expiry of any interest in the property.

Where an NFT offers a fractional interest in a digital asset, such as a digital representation of an underlying asset, the NFT will likely be an arrangement in respect of property. If the arrangement involves the management of that digital asset in some fashion to generate a profit which is to be shared amongst the holders of the NFT, there is a heightened risk that the NFT would constitute a collective investment scheme, triggering NFT regulation.

Licensing and Authorization

The NFT Regulation Circular reminds the public that where NFTs may be regarded as “securities”, licensing requirements may apply to the extent that a person carries on a business of dealing in NFTs, advising on NFTs or managing an investment portfolio that includes NFTs. Where licensing requirements may otherwise apply, a person dealing in NFTs may be exempt from those requirements by acquiring or disposing of NFTs as principal.

Similarly, authorization requirements may apply to the extent that a person issues or possesses for the purposes of issue any offer or invitation to acquire NFTs. Where authorization requirements apply, the marketing of any given NFT may be limited to marketing to professional investors (as defined under the SFO) or in other circumstances where there is no offer or invitation to the public in Hong Kong.

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