The Luxembourg Private Equity and Venture Capital Association (LPEA) is the representative body of private equity and venture capital professionals in Luxembourg.
With 170 members, LPEA plays a leading role in the discussion and development of the investment framework and actively promotes the industry beyond the country’s borders.Luxembourg disposes of a stable tax regime and is today at the forefront of international PE regulation providing a flexible, secure, predictable and multi-lingual jurisdiction to operate in. LPEA provides a dynamic and interactive platform for its members to discuss and exchange information and organises working meetings and networking opportunities on a regular basis.
On April 1st, the LPEA Young PE Leaders Legal working group, along with contributions of the following member firms: Allen & Overy, Clifford Chance, EY, PwC, Stibbe and Wildgen, issued a paper on “Security Tokens – Legal Aspects”.
The purpose of the paper was to give an overview about the possible classification of tokens and the possible legal issues relating to an ICO. The paper classified tokens into 3 categories:
- Payment tokens: Payment tokens are virtual or cryptocurrencies (this is, for instance, the case of Bitcoin or Ripple – meaning XRP –), i.e. tokens intended to be used, now or in the future, as means of payment for acquiring goods or services or as means of money or value transfer. Payment tokens are not related to a particular asset or service. Token holders have no right to claim against the issuer of the token. In fact, there is no issuer of token in the common sense because cryptocurrencies are based on decentralised control as opposed to centralised electronic money and central banking systems.
- Asset tokens: Asset tokens represent assets such as a debt or an equity claim on their issuer. They promise a share of future earnings of a company or future capital flows. They are analogous to equities, bonds, or derivatives and therefore generally treated as a security. According to FINMA, tokens which enable trading of physical assets on the blockchain also fall within this category. When assessing whether a token is a security or not, attention should be given to the fact that it is a substance over form analysis that will prevail. If a token has features commonly found in securities, such as dividend rights, rights to future profits, political rights such as voting rights, or rights to claims in bankruptcy as a creditor, then it is likely it will be deemed a security. Units of collective investment schemes are also securities, even if they are tokenised.
- Utility tokens: Utility tokens are not treated as securities if their sole purpose is to confer digital access rights to an application or service and if the utility token can be used in this way at the point of issue. Here, the typical feature of securities – that is the connection with the capital markets – is missing since the underlying function is to grant access rights. Regulators have reclassified a number of tokens as securities, often times because token issuers did not comply with the condition that their utility be available at the point of issue. Several socalled utility tokens were issued to finance the development of the application or service that would only be made available in the future. At the same time the token was marketed as tradable, sometimes as an investment with a promise that it would increase in value in the future. In a nutshell, if a utility token additionally or only has an investment purpose at the point of issue, it should be treated as a security according to FINMA. If the only purpose of a token is to provide digital access to an application or service by means of a blockchain-based infrastructure, then they can be considered as falling outside securities law.
Our understanding is that the LPEA believes that XRP should be classified as a payment token, like Bitcoin. XRP holders have no right to claim against the issuer of the token and our opinion is that this paper considers XRP NOT to be a security.
Important note: The author of this article is not a Lawyer and any insight provided is not legal or financial advice.