Nigeria's Securities and Exchange Commission (SEC) issued rules and guidelines for all crypto and digital asset service providers on Friday, May 13, 2022.
The rules in the document, New Rules on Issuance, Offering Platforms and Custody of Digital Assets, include:
- New licence requirements for platforms that deal with digital assets
- Categorisation of the platforms
- Guidelines for their operations
SEC Rules for virtual asset service providers (VASPs)
Anyone offering crypto or digital assets-related service in Nigeria is a VASP. The categorisation of VASPs is further broken down into:
- Digital Assets Offering Platforms (DAOPs): These platforms enable the issuance of digital assets for fundraising purposes. They can also be called Initial Coin Offering platforms. You can liken it to a place where public companies offer their stocks for sale, such as the New York Stock Exchange (NYSE).
- Digital Asset Custodians (DACs): According to the SEC, "this means a person who provides the services of providing safekeeping, storing, holding or maintaining custody of virtual assets/digital tokens for another person's account." These are crypto wallets like Metamask and Trust Wallet. Crypto exchanges fall into these categories too because they offer wallet services.
- Digital Assets Exchange (DAX): This is "an electronic platform which facilitates the trading of a virtual asset or digital asset." They are simply crypto exchanges such as Binance and Quidax.
Who are considered VASPs?
The SEC identifies any platform that facilitates trading, exchange, issuance, and digital and virtual assets transfer as VASPs. It is an umbrella term for a person or entity that uses/offers any crypto-related services.
The Commission did not mention any monetary requirement for the registration of VASPs, but there are several requirements and obligations for the registration.
Rules for crypto exchanges
In addition to the general requirements for all VASPs, registering as a Digital Assets Exchange (DAX) — crypto exchange — operator requires the following:
- ₦100,000 application fee ($240)
- ₦300,000 processing fee ($722.46)
- ₦30 million registration fee ($72,000)
- Minimum paid-up capital of ₦500 million ($1.2 million)
Every exchange serving Nigerians must be duly certified by the Corporate Affairs Commission (CAC). This means exchanges such as Binance and Paxful will have to be registered with the CAC.
Every exchange will also have a SEC-approved board. The Commission will also approve the appointment of CEOs and other principal officers in exchanges.
CEOs will hold office for no more than ten years. In the words of the SEC, "The Chief Executive Officer of a DAX Platform shall hold office for five years in the first instance and may be re-appointed for a further period of five years and no more.”
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The Commission did not clarify if the CEO’s tenure period will be applied at one crypto exchange or at different exchanges.
This model is similar to the Nigerian Stock Exchange. The Nigerian Stock Exchange CEO, Oscar Onyema completed his 10-year tenure in April.
Exchanges will now be required to submit weekly and monthly trading information, quarterly, and annual financial reports, including compliance reports to the Commission.
The SEC must also be notified before an exchange can cease trading operations. They are also not allowed to grant financial assistance to investors or employees to trade digital tokens.
Before any token or digital asset can be listed for trading on an exchange, the SEC must first issue a "no objection" approval for the token.
The exchange needs to demonstrate some level of information concerning the token or project. It must have the project's whitepaper — an informational document that contains why a token is being created, a roadmap and an incentive for investors — know its level of security, how secure its blockchain is and the number of nodes it has.
In addition, it should reveal if the project has suffered any hacks in the past and any security vulnerabilities it has.
The SEC's rules on exchanges signify a thorough understanding of how cryptocurrencies work. This has helped the Commission develop measures to protect crypto traders from trading scam tokens and ensure the safety of their funds in exchanges.
However, sharing data with the SEC could be a privacy concern for many. Cryptocurrencies, after all, were created to give pseudonymity to financial transactions.
SEC crypto regulations on creating or issuing tokens
There are currently 19,443 crypto tokens in existence, according to CoinMarketCap. Creating and issuing tokens is relatively easy, making it possible to develop scam tokens.
With crypto scammers stealing up to $14 billion in 2021, the need for even more protection for investors has never been more apparent.
The ease of token creation has led to the creation of popular scam tokens such as the Squid Token, which saw investors lose $3 million in two weeks.
The SEC's rules on token issuance are to tackle this problem and minimise victims of scam tokens.
The SEC will now require any business or entity looking to conduct an initial asset offering or initial coin offering (ICO) in Nigeria or targeting Nigerians to submit an assessment form and a draft of its white paper — an informational document that contains why a token is being created, a roadmap, and incentive for investors.
After receiving all necessary filings, the Commission will take 30 days to determine if the project should be offered to Nigerians.
Before the assessment is complete, all digital asset offerings must have the disclaimer in the whitepaper clearly stating that the SEC has not determined if the asset is suitable for offerings or considered a security.
According to the SEC, some digital assets can now constitute securities. The problem of identifying digital assets and cryptocurrencies has always been a major obstacle to their regulation.
If the SEC considers a digital asset a security under the Securities Act of 2007, the asset will be registered as a digital asset and security.
How does the SEC determine digital assets as security?
Generally, a security is a financial instrument that holds monetary value, can be traded publicly, and represents part ownership in a company that has gone public.
For example, company stocks, bonds and mutual funds are examples of securities. Buying Tesla stock, for example, means you own securities and are a part-owner of the company.
Therefore, it can be inferred that a digital asset that has the characteristics of a security will be considered a security by the SEC.
In the crypto world, governance tokens are examples of such tokens. They represent a level of ownership or control of an entity, and holders of the token have a right to vote on how a company should be run.
There's a ₦10 billion ($24 million) cap on the amount of money that can be raised through digital assets.
In recent years, we've seen crypto-focused companies try to raise money by issuing crypto tokens to the public. The SEC's new rules would mean that if a company, say Bitmama, wants to raise funds by issuing tokens, it has to do so on a platform that is VASP registered.
If the asset offering is to raise money for an entity that deals with digital/virtual assets, then it is a VASP and will need the proper registration to be considered as such.
Rules for Digital Assets Offering Platforms (DAOPs)
DAOPs are platforms where digital assets are issued. They can also be called ICO platforms. Tokens are issued on these platforms for people to buy by entities looking to raise money. It is the same way public companies like Tesla and Google sell stocks. Registration for DAOPs is also quite similar to DAXs.
- Application fee of ₦100,000 ($240)
- Processing fee of ₦300,000 ($722.46)
- Registration fee of ₦30 million ($72,000)
- Minimum paid-up capital of ₦500 million ($1.2 million)
According to the SEC, DAOPs are expected to carry out due diligence on all digital asset offerings and determine whether to approve them or not. They're also expected to provide investors with updated information on all digital asset offerings.
Limitations to SEC's rules
Decentralisation of the crypto space has been a significant challenge to its regulation, and the SEC's rule does not clearly state its regulatory plans for VASPs operating in the decentralised space.
While the Commission can control what goes on in centralised exchanges, it is unaware of what people do on decentralised exchanges where no know-your-customer (KYC) protocol is required.
Enforcing the rules on token issuance and determining which are securities is also limited by decentralised structures of crypto tokens.
Tokens that have the characteristics of securities are usually governance tokens mainly used by Decentralised Autonomous Organizations (DAOs) and are governed by smart contracts that carry out any actions agreed upon.
While the SEC has its rules, following them could be a choice for some VASPs. However, the SEC can bank on investors to only invest in VASPs approved by the Commission for their safety.
Of course, this is not a given.
For centralised and international crypto companies like Binance, it will be interesting to see how the SEC plans to enforce its rules.