Regulatory framework and definition
General overview
In Japan, there is no omnibus regulation governing blockchain-based tokens. The legal status of tokens under Japanese law is determined based on their functions and uses.
For example, cryptocurrencies and utility tokens such as BTC, ETH, etc. are regulated as "Crypto Assets" under the Payment Services Act (the "PSA"). Business operators who engage in the business of buying, selling or exchanging Crypto Assets (as well as in the intermediation of such activities), or in the management of Crypto Assets for the benefit of others, are required to undergo registration as a provider of Crypto Asset Exchange Services ("CAES" and a provider of CAES, a "CAESP"). Currency denominated stablecoins such as USDC and USDT are regulated as "Electronic Payment Instruments" ("EPIs") under the PSA. Business operators who engage in the business of buying, selling or exchanging EPIs (as well as in the intermediation of such activities), or in the management of EPIs for the benefit of others, are required to undergo registration as an Electronic Payment Instruments Exchange Service Provider ("EPIESP"). However, so-called algorithmic stablecoins that are not collateralised by fiat currency but whose values are linked to fiat currency through algorithms do not fall within the category of EPIs as they do not qualify as Currency Denominated Assets. Instead, such algorithmic stablecoins will constitute Crypto Assets if they are transferable or tradeable vis-à-vis unspecified parties on a blockchain.
So-called "security tokens", which represent shares, bonds or fund interests in tokens, are regulated under the Financial Instruments and Exchange Act (the "FIEA") as electronically recorded transferable rights ("ERTRs") to be indicated on securities, etc. ("ERTRIS, etc."). A business operator who engages in the business of offering (including the handling of such offers), buying, selling or exchanging ERTRIS, etc. (as well as in the intermediation of such activities) is required to undergo registration as Type I Financial Instruments Business Operators ("Type I FIBOs").
Tokens other than those mentioned above, such as non-fungible tokens ("NFTs"), which have no economic function as a means of payment due to their unique characteristics, will not be regulated in principle under the current regulatory framework.
Introduction of regulatory framework for stablecoins
On March 4, 2022, the "Bill for Partial Amendment to the Act on Payment Services Act, etc. for the Purpose of Establishing a Stable and Efficient Funds Settlement System" (the "Amendment Act"), which aims to introduce new regulations in respect of stablecoins, was submitted to the Diet. The Amendment Act was approved on June 3, 2022 and came into effect on June 1, 2023.
Under the Amendment Act:
- EPIs (i.e., currency denominated stablecoins) are distinguished from other currency denominated assets by the following factors: (i) whether they can be used as payment for consideration to unspecified persons; and (ii) whether they may be purchased from or sold to unspecified persons. Based on this, prepaid payment instruments and electronic currency that are issued by fund transfer service providers do not satisfy condition (i), as their issuers would centrally manage the balance of each user and the scope of stores (that is, member stores) that accept the relevant prepaid payment instruments and electronic money. Additionally, digital currencies, notwithstanding that they are issued on blockchains, will not satisfy condition (ii) if their issuers have taken technical measures that restrict the transfer of such digital currencies only to persons who have been verified as unproblematic under know-your-customer ("KYC") checks at the time of transaction, and if the issuers' consent or other involvement is required for every transfer of the digital currencies. Consequently, stablecoins issued on a permissionless blockchain would typically be deemed EPIs, as new holders of such stablecoins generally are not required to undergo KYC checks and transfers of such stablecoins do not require the involvement of their issuers.
- Those who are permitted to issue EPIs directly to Japanese residents are limited to banks, fund transfer service providers, trust banks or trust companies that are licensed in Japan. This is because the issuance and redemption of EPIs constitute "fund remittance transactions" (kawase-torihiki).
- It is not possible for a CAESP to list EPIs on any exchange or manage EPIs for its users without being registered as an EPIESP.
- An EPIESP is subject to anti-money laundering/counter-financing of terrorism ("AML/ CFT") regulations, including a "travel" rule. More specifically, an EPIESP, when transferring EPIs to any other EPIESP, is required to provide a customer's identification information to such other EPIESP. Moreover, an EPIESP who sends or receives EPIs to or from overseas virtual asset service providers ("VASPs") on a regular basis is required to check whether such VASPs are conducting appropriate due diligence on its users for AML/CFT purposes.
Recent developments in respect of NFTs
Recently, digital art and digital trading cards represented by NFTs, which are non-replaceable digital tokens issued on a blockchain, have been traded for considerable amounts. As a result, NFTs have been rapidly gaining attention in Japan. While digital data is inherently free and easy to copy, NFTs are considered innovative because they involve creation of unique, one-of-a-kind data based on blockchain technology.
From the regulatory standpoint, NFTs would not constitute securities or ERTRIS, etc. under the FIEA if their holders do not share in profits or receive dividends. In addition, where NFTs are non-fungible, non-substitutable, and not used as a means of payment, they would not be deemed Crypto Assets under the PSA.
According to the FSA Administration Guidelines on Crypto Assets ("Crypto Asset Guidelines"), dated March 24, 2023 and issued by the Financial Services Agency of Japan (the "FSA"), one of the factors for determining whether a token constitutes a Type I Crypto Asset (defined below) is whether it is "an asset capable of being purchased or sold with legal fiat currency or crypto assets under socially accepted norms". Specifically, a token that satisfies items (i) and (ii) below generally will not constitute a Type I Crypto Asset. The same applies to the determination of whether a token constitutes a Type II Crypto Asset (defined below):
- The issuer has made it clear that the token is not intended to be used as payment for goods, etc. to unspecified parties. This can be achieved by, for example, stating clearly in the terms and conditions of the issuer or its business-handling service provider, or in the product description, that use of the token as a means of payment to unspecified parties is prohibited, or that the token or related system is designed in a way that does not enable it to be used as a means of payment to unspecified parties).
- In situations where use of the token as a means of payment for
goods, etc. to unspecified parties is permitted, certain
requirements on the price and quantity of the relevant goods, etc.,
and on the technical characteristics and specifications of the
token, must be met. For example, at least one of the following
characteristics must be present:
- the minimum value per transaction must be sufficiently high (i.e., JPY1,000 or more); or
- the number of tokens issuable, in proportion to the aforementioned minimum value of a transaction, is limited (i.e., not exceeding 1 million).
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Originally Published by Global Legal Group
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
