(For German version click here)
The German ministries of Justice and Finance this summer proposed new regulations regarding crypto securities in combination with the draft legislation for the introduction of electronic securities. According to the proposed draft, crypto securities are intended to constitute a specific form of electronic securities and differ from them only in the way that they are registered with a crypto security registry. These crypto security registries are intended to be run by service providers which are authorized for this activity by the financial supervisory authorities. According to the draft legislation, crypto security registries are intended to be operated on a decentralized, forgery-proof recording system which records the data in chronological order and secures them against unauthorized erasure and subsequent modifications. According to the explanatory memorandum to the draft legislation, the term crypto security registry is not connected to a specific technology, but because the definition calls for a decentralized storage solution, most likely only recording systems that are based on Distributed Ledger technology are suitable at this point in time. The usage of public blockchains is probably not an option for crypto registry managers since the risks connected to a hard-fork-event can hardly be controlled. Private blockchains currently seem to be the only practical solution.
Which Information is Supposed to be Kept in a Crypto Security Registry?
Detailed information regarding the registered crypto securities are supposed to be entered in crypto security registries. Specifically, the draft legislation intends for information being kept that enable an unambiguous identification of the security (e.g. ISIN), information regarding the issuer, the bearer, disposal hinderances, third-party rights and information regarding the question if the crypto security is registered in the name of a securities trading bank or in the name of the custodian (collective custody) or in the name of the individual bearer. The new regulation is supposed to ensure that the individual that is labeled as the bearer in the crypto security registry is also the legal bearer. Dispositions regarding crypto securities are supposed to only come into effect if they are entered in the respective crypto securities registry.
Is it Mandatory for Tokenized Securities to be Registered in a Crypto Securities Registry if the Legislative Proposal Goes into Effect?
The new regulations regarding crypto securities would not be mandatory for the issuing of tokenized securities. It would still be possible to issue a “traditional” security tokens on a public blockchain that would be connected to certain investor rights, according to the current iteration of the draft legislation. The major advantage of crypto securities over unregistered security tokens would be the possibility to acquire the first named in an unencumbered, bone fide way. This feature, which is according to current securities law only possible if there is a physical embodiment of the security, could make crypto securities marketable on regulated trading facilities.
Is a Centralized Registry for Crypto Tokens a Mandatory Prerequisite to Make them Acquirable in a Bone Fide, Unencumbered Way?
First, it has to be made clear that the decentralized storage method would not change the fact that the operator of a crypto security registry would keep a centralized database. The draft legislation not only intends for the introduction of the stipulations regarding crypto security registries, but also for a legal fiction that would equate electronic securities to objects in the sense of the German Civil Code (BGB). The elevation of electronic securities to objects in the sense of the BGB is absolutely sufficient to apply the provisions regarding the unencumbered, bone fide acquisition of objects that are stipulated in the BGB to tokenized securities. A central register on the other hand would not necessarily be required. The introduction of a central registry would rather mean a legislative rejection of the technical innovation possibilities of tokenized securities, since it would mean that key efficiency-increase potentials such as the possibility to do without an intermediary such as a central depository would be made impossible by this regulation. The registration of paper-based securities with a central depository may be a sensible solution to enable the electronical trade of the otherwise physical securities. A reason for the mandatory usage of a central database for securities, that are anyways relatable to individual bearers because they exist on a publicly displayable blockchain does however not suggest itself.
Attorney Lutz Auffenberg, LL.M. (London)
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