As the global crypto industry continues to grapple with increasing regulatory scrutiny and clampdowns, new hubs for the virtual asset industry are emerging. One such emerging hub is Hong Kong, which recently proposed rules allowing retail investors to trade certain “large-cap tokens” on licensed exchanges, contrasting mainland China’s outright ban on crypto-related transactions.
Based on what I know, The Securities and Futures Commission of Hong Kong has not yet specified which large tokens would be allowed. Still, industry insiders speculate it would likely be Bitcoin and Ether, two of the biggest digital assets by market value.
While China’s clampdown on crypto trading was intended to protect individual investors from speculative activity, the increasing number of bankruptcies and layoffs in the global crypto industry may have justified their actions.
Nevertheless, the crypto industry continues to attract talent and investment, making it hard to imagine Beijing sitting idly while the rest of the world develops new building blocks that could potentially spark a new wave of innovation as big as the current internet itself.
China’s crackdown on crypto trading has led many of its web3 startups to look abroad, with many of them setting up new bases in more crypto-friendly locations like Singapore and Dubai. However, with Hong Kong’s introduction of a more relaxed regulatory environment for cryptocurrencies, some Chinese-founded web3 companies in exile may consider returning home to Hong Kong.
Hong Kong has a long history as a financial hub and can potentially be a laboratory for China’s policymakers to test out blockchain’s potential with some buffer for the nation’s one billion netizens. The city’s proposal stipulates that all centralised virtual currency exchanges operating in the city or marketing services to the territory’s investors must obtain licenses from the securities and futures authority.
The proposed requirements cover key areas such as safe custody of assets, know-your-client, conflicts of interest, cybersecurity, accounting and auditing, risk management, anti-money laundering/counter-financing of terrorism, and prevention of market misconduct.
In addition to ensuring suitability in onboarding clients and token admission, the other key proposals relate to token due diligence, governance, and disclosures.
In other words, centralised crypto exchanges must ban Hong Kong IP addresses until they obtain the relevant permits to operate in the city. The regulatory requirements are currently open for consultation until March 31, and the new licensing regime will take effect on June 1.
This move by Hong Kong is strategic, and it can attract crypto companies and investments to the city. Implementing clear regulatory frameworks would help the industry gain mainstream adoption and bring in more institutional investors.
The crypto industry has come a long way since the inception of Bitcoin over a decade ago. With the emergence of DeFi (Decentralised Finance) and NFTs (Non-Fungible Tokens), the industry has grown significantly, and this growth is expected to continue. However, to achieve its full potential, it needs to address its regulatory concerns.
The introduction of clear regulatory frameworks can help crypto companies gain mainstream acceptance, bring in more institutional investors, and pave the way for new and innovative use cases for blockchain technology. Hong Kong’s move towards a more relaxed regulatory environment for cryptocurrencies is a significant step in the right direction, and I hope that other countries will follow suit.
AML crypto regulations in Hong Kong
The Legislative Council passed the Anti-Money Laundering and Counter-Terrorist Financing (Amendment) Bill 2022 (AML/CTF Amendment Bill 2022) on December 7, 2022. This bill introduced a licensing regime for virtual asset service providers (VASPs) and imposed anti-money laundering (AML), counter-terrorism financing (CTF), and investor protection obligations upon these actors.
VASPs that are licensed in Hong Kong are subject to a number of AML, CTF, and investor protection obligations. These include:
- Customer Due Diligence (CDD): VASPs must conduct CDD on their customers, which includes identifying and verifying the identity of the customer, the beneficial owner, and any other person who exercises control over the customer. VASPs must also assess and understand the nature and purpose of the business relationship with the customer.
- Ongoing monitoring: VASPs must monitor their customers’ transactions on an ongoing basis to ensure that they are consistent with their knowledge of the customer, the customer’s business, and the risks associated with the customer.
- Record-keeping: VASPs must maintain adequate records of their customers, their transactions, and their risk assessments. These records must be kept for a period of at least five years.
- Reporting: VASPs are required to report suspicious transactions to the Joint Financial Intelligence Unit (JFIU) of Hong Kong. Suspicious transactions include those that are inconsistent with the customer’s profile, those that have no apparent economic or lawful purpose, or those that involve the proceeds of crime.
- Investor protection: VASPs must also put in place measures to protect their customers’ assets. This includes measures such as segregation of customer assets from the VASP’s own assets and insurance against losses.
- Penalties for non-compliance: VASPs that fail to comply with the new regulations are subject to a range of penalties, including fines, suspension or revocation of their license, and criminal liability. Individuals who are found guilty of money laundering or terrorist financing may face imprisonment of up to 14 years and fines of up to HK$5 million.
The new regulations also provide for the imposition of sanctions by the United Nations Security Council or by Hong Kong in respect of breaches of international sanctions.
Licensing and registration requirements for VASPs in Hong Kong
Anyone who engages in a virtual asset exchange business in Hong Kong must apply for a license with the SFC. The AML/CTF Amendment Bill 2022 also introduced regulations for VASPs to comply with the Crypto travel rule.
The HKMA will only grant licenses to VASPs that meet certain criteria, including:
- The company must be incorporated in Hong Kong.
- The company must have a permanent place of business in Hong Kong.
- The company must have adequate financial resources.
- The company must have appropriate AML/CTF systems and controls in place.
- The company must have a compliance officer responsible for ensuring the company’s compliance with the new regulations.
VASPs that fail to obtain a license will be prohibited from providing virtual asset services in Hong Kong.
Complying with the crypto travel rule in Hong Kong
The crypto travel rule will be effective in Hong Kong as of June 1, 2023. The new regulatory regime will provide industries with a grace period to prepare for compliance until that date. In Hong Kong, Travel Rule requirements apply regardless of the transaction amount.
The scope of data to be exchanged varies depending on the threshold of the transaction. For virtual assets that amount to HK$8,000 or more, the following information needs to be shared: name, account number, and address of the originator, as well as the beneficiary’s name and account number. For virtual assets that amount to less than HK$8,000, only the name and account number of the originator and beneficiary are required.
There are no differences in customer personally identifiable information (PII) requirements for cross-border transfers and transfers within Hong Kong. However, for wire transfers, the information recorded must include the number of the originator’s account or a unique reference number assigned to the wire transfer by the financial institution.
Non-custodial or self-hosted wallet transactions do not have any specific requirements in Hong Kong. The AML/CTF Amendment Bill 2022 defines virtual asset transfers subject to Crypto Travel Rule requirements as transactions for transferring virtual assets carried out by an institution on behalf of an originator, with a view to making the virtual assets available to the originator or another person at an institution, which may be the ordering institution or another institution.
In conclusion, Hong Kong’s proposal to allow retail investors to trade large-cap tokens on licensed exchanges is a significant development for the global crypto industry.
While China’s crackdown on crypto trading was aimed at protecting individual investors from speculative activity, the regulatory framework proposed by Hong Kong is more relaxed and can potentially attract more crypto companies and investments to the city. The implementation of clear regulatory frameworks would help the industry gain mainstream adoption and bring in more institutional investors.
I am looking forward to seeing a striking balance between the both.