The Seychelles: enhancing the proposed framework for virtual asset service providers

With the increasing prominence of cryptocurrency trading platforms in regulatory-friendly jurisdictions, that has brought the spotlight on Seychelles as a preferred destination for virtual asset service providers (VASPs).

As a secure and business-friendly environment, Seychelles has attracted an influx of key players such as BitMEX, Huobi, OKEx, KuCoin, CoinFLEX, MEXC Global, and iBG.finance underscores the favourable regulatory landscape that facilitates their operations and growth.

Seychelles' emergence as a crypto-friendly hub is not incidental but rather a result of strategic measures by the government to create an enabling environment for technological innovation and financial services.

With a legal framework designed to accommodate fintech companies, Seychelles offers the flexibility necessary for these entities to thrive amidst rapid industry evolution. The country's reputation for natural beauty, coupled with a progressive approach towards digital assets regulation, has made it an attractive choice for cryptocurrency exchanges.

Recent developments in the global financial market, including events like the FTX crisis and CoinFlex restructuring, have highlighted the imperative for robust standards and regulations governing VASPs.

These incidents, along with broader economic challenges, have emphasized the need for coordinated efforts to establish clear guidelines for ethical and secure operation within the virtual asset space.

The aftermath of the FTX and CoinFlex incidents highlights the importance of enhanced oversight, consumer protection, and global standards to prevent regulatory arbitrage and ensure market stability. As the industry navigates challenges related to centralised platforms and decentralised exchanges, there is a growing recognition of the necessity for improved risk management practices and rebuilding trust among investors.

The recent restructuring plan sanctioned by the Supreme Court of Seychelles for Liquidity Technologies Ltd (LTL), operating as CoinFlex, serves as a pivotal example of addressing financial challenges within the crypto space.

The court's approval of LTL's restructuring plan, which enabled a solvent exit from administration, demonstrates a proactive approach to resolving issues and preserving operational continuity. The restructuring plan implemented a ground-breaking approach by Justice David Esparon, allowing LTL to emerge from administration as a viable entity, marking the first instance of the court utilising its discretion under section 208 of the International Business Act to approve such a restructuring for a Seychelles crypto exchange.

An innovative facet of this process was the court's approval for LTL to conduct electronic voting among scheme creditors using snapshot.org.

To ensure an accurate and transparent voting process, all non-U.S. Dollar balances were converted based on market prices at the voting record time on Thursday, September 22, 2022. The voting period commenced at 8 AM UTC on Sunday, September 25, 2022, and concluded at 4 AM UTC on Tuesday, September 27, 2022.

Each scheme creditor received voting tokens via Snapshot in proportion to their scheme creditor claims, showcasing a progressive approach to inclusive decision-making. Creditors were also offered the option to cast their votes in writing, either accepting or rejecting the scheme of arrangement, further demonstrating the innovative and forward-thinking nature of the court ruling in facilitating a transparent and efficient restructuring process through a blockchain.

In response to these events, the Seychelles government initiated a consultation process to address money laundering and terrorist financing risks associated with virtual assets and service providers.

The proposed regulatory framework aims to enhance financial stability, consumer awareness, and industry growth while incorporating feedback on licensing, AML/CFT laws, cybersecurity measures, and compliance requirements.

By striking a balance between fostering innovation and safeguarding consumer interests, the Seychelles seeks to establish itself as a jurisdiction that promotes responsible digital asset services. The collaborative efforts of industry stakeholders, regulatory bodies, and supervisory authorities are instrumental in developing a regulatory framework that inspires confidence while enabling sustainable growth in the virtual asset sector.

Industry feedback

The main feedback from the industry, which highlights the forward-thinking nature of the proposed regulatory framework is that the proposed scope of activities and definitions of key terms like 'virtual asset' and 'virtual asset service provider' align closely with global standards. However, the industry recommends that the FSA provide clarity on activities excluded from being considered a VASP, drawing from best practices in similar jurisdictions like the BVI.

For instance, clarifications on the scope of technology service providers not falling under VASP, unless involved in specific regulated activities, would enhance industry understanding.

Additionally, the inclusion of 'virtual asset wallet providers', particularly 'non-custodial' providers, within the scope raises concerns. Global discussions suggest excluding un-hosted wallet providers from licensing requirements, unless involved in fiat-to-virtual asset exchanges.

The act should address this distinction to promote a balanced regulatory approach. Ambiguity surrounds virtual asset payment services within the act, highlighting the necessity for clear differentiation between prohibited and permissible services to ensure regulatory clarity and adherence.

Concerns are raised regarding the transition of existing businesses to the new act without a specified grace period. Introducing transitional arrangements, as observed in other jurisdictions, would facilitate effective alignment with regulatory requirements and mitigate non-compliance risks.

Additionally, there is a need for clarification on whether business models such as 'BTM' operators, staking services, and lending are encompassed by the act. Establishing precise parameters for these activities will enhance regulatory compliance for affected entities.

Notably, careful consideration of the act's provisions concerning miners and validators is essential to develop a comprehensive and efficient regulatory framework.

Furthermore, the crypto industry has urged a review of the compulsory Seychelles-resident director requirement for licensees, proposing a more flexible case-by-case assessment approach in line with practices found in securities and markets legislation in comparable jurisdictions.

Additionally, industry stakeholders advocate for a re-evaluation of the mandate for VASPs offering services in or from the Seychelles to centralize complaints handling and onboarding processes within the jurisdiction. This particular requirement is seen as overly burdensome for digital-first businesses that typically operate with minimal physical infrastructure and a geographically dispersed workforce.

Yet unlike most global VASP regulations that allow these functions to be decentralized, the insistence on confining all complaint handling and onboarding activities to the Seychelles distinguishes the jurisdiction from its peers.

As the Seychelles progresses towards implementing the proposed regulatory framework for VASPs, it is crucial for regulatory authorities to adopt a forward-thinking approach that proactively addresses industry challenges and sets clear compliance guidelines. By prioritising transparency, accountability, and consumer protection, the Seychelles aims to create a conducive environment for virtual asset exchanges while upholding the integrity of the sector.

Ultimately, the enhanced framework for virtual asset service providers in the Seychelles signifies a significant stride towards regulatory clarity and industry advancement. Through a balanced approach that emphasizes innovation and risk mitigation, the Seychelles endeavours to cultivate a thriving ecosystem for virtual asset services while nurturing trust and stability among all stakeholders involved.