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I had the privilege of spending my summer at Ravenscroft & Schmierer, a full-service law firm situated in Hong Kong. I supported a number of lawyers in performing legal research, assisting in due diligence processes, drafting legal documents and assisting in notarial matters. Here are the insights I gained from this valuable experience.
Author: Isaac Tsang, Legal Intern
During my internship, I was able to listen to conversations relating to crypto regulation in Hong Kong. In this article, I will apply my perspective on crypto currency through my North American background.
In a dash to regulate the constantly growing list of crypto-currencies and virtual assets, different jurisdictions have taken different approaches to ensure compliance, protect investors, and mitigate potential risks. One of the most prevalent issues is whether to have crypto-currencies fall under the purview of existing security regulators or to provide an entirely new regime to address the unique characteristics and challenges posed by these digital assets.
Crypto Regulation in North America: for now regulated by existing securities regulation
Courts in both Canada and the United States have held that crypto-currencies, for the large part, fall within the scope of existing securities regulation, hence warranting the full implementation and enforcement of securities law. In determining whether an asset qualifies as a security, both jurisdictions utilise the Howey test.
The Howey Test: a determinator tool for securities
Both jurisdictions’ respective securities legislation define securities. However, borderline cases and crypto-related transactions are most often litigated as to whether these transactions qualify as an ‘investment contract’, a category of securities. The Howey test itself provides several qualities that are indicative of an ‘investment contract’. It requires: “(i) an investment of money (ii) in a common enterprise (iii) with profits to be derived solely from the efforts of others”. See ‘Application to Cryptocurrencies’; SEC v. Coinbase, Inc., No. 1:23-cv-04738-KPF and for Canadian Case, Polo Digital Assets, Ltd (Re), 2022 ONCMT 32.
(i) Investment of Money
In the application of the Howey test to crypto-currencies, the first prong of the test was never an issue. Both jurisdictions opted for taking a straightforward approach of noting that there was a payment thus meeting the first element of the test. The real action lies in the last two prongs.
(ii) In a Common Enterprise
For Canada, in Polo Digital Assets, Ltd (Re), 2022 ONCMT 32, the Capital Markets Tribunal holds that when you deposit onto their platform, you put money into the hands of the platform. Thus, you are counting on them to manage this platform in a way which allows you to withdraw and cash out the value attained. With the investors dependent on the actions of the platform, there is a common enterprise between the investor and the promoter (the crypto platform).
The New York Federal court’s recent decision on Coinbase focuses on the common enterprise between investors. They note that all token purchasers and issuers would be affected equally by changes to the performance of the token and the token’s ecosystem. As such, the court held that the SEC had adequately pleaded that investors and issuers were part of a common enterprise.
(iii) Profits to be Derived Solely from the Efforts of Others
The tribunal held that investors were completely reliant on Polo Digital for the return of their assets. As per the user agreement, Polo Digital had the right to restrict or refuse requests to withdraw assets from the platform in certain circumstances. The success of the client's investment was entirely reliant on and within the control of Polo Digital.
The New York Federal court notes that the SEC has plausibly alleged that issuers and promoters through various avenues repeatedly encouraged investors to purchase tokens by advertising the ways in which their efforts would be used to improve the value of the asset. As such the expectation of profits for purchasers was plausibly derived solely from the effort of others.
Crypto-Currency Regulation as a Separate Regime
Hong Kong offers a different solution to the problem by creating a cryptocurrency licensing scheme that offers virtual asset trading platform (VATP) licences. This cements crypto-currency as an asset governed by a separate set of rules that is beyond securities law. This scheme offers flexibility to tackle cryptocurrency in a way that is different from traditional securities regulations, hence matching the distinct risk profile of digital assets. Whereas, North American jurisdictions are primarily focused on providing new tools to traditional regulators. The establishment of a separate regime is the first step in recognizing that traditional securities regulations lack the tools to address the concerns raised by digital assets.
Furthermore, this largely reduces the scale of the ongoing debate and uncertainty pertaining to what falls under the purview of securities law and what does not, thus reducing the amount of litigation and disputes regarding whether each slightly different digital asset falls within the definition of a security. This uncertainty is now limited to instances where an asset may not fully fall within the current cryptocurrency schemes but also looks to fall within the definition of a security.
The establishment of the VATP scheme is a step in the right direction, but the continuing development of digital assets requires the continual monitoring and addressing of newly developed risks.
Being part of discussions like the one that inspired the above article is only one of the advantages of interning with Ravenscroft & Schmierer. I took in a lot as well working with David Ravenscroft, the firm’s notary public. In a podcast I did with him, we dove deeper into the profession, have a listen here:
I enjoyed my time at Ravenscroft & Schmierer and as a signing off, I wanted to share an image of me with my cohort of legal interns. (I am the second one from the left.)
Isaac Tsang is a second-year JD (Juris Doctor) student at Queen’s University. He previously finalised his undergraduate degree at the University of Toronto. He completed his internship at Ravenscroft & Schmierer in the summer of 2024.
Isaac Tsang
Legal Intern 2024
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