Regulation of crypto exchanges and other crypto services in the Cayman Islands

The Virtual Asset (Service Providers) Act, 2020 (VASP Act) as amended, provides a legislative framework for the conduct of virtual assets busi¬ness in the Cayman Islands, and the registration and licensing of persons providing virtual asset services. Since the introduction of the VASP Act, the Cayman Islands Monetary Authority (CIMA) has seen a large number of registration applications and, where applicable, licence applications relating to crypto exchanges, crypto custody and brokerage, crypto marketplaces, initial coin offerings, security token offerings, and other businesses operating in, and services being provided in, the digital assets space utilising Cayman Islands entities.

According to information from the CIMA, 55% of the VASPs registered in Cayman are trading platforms with a daily transaction volume of USD5.1 billion (2 to 3% of total global volumes).

What is a virtual asset?

The VASP Act defines a “virtual asset” as “a digital representation of value that can be digitally traded or transferred, and can be used for payment or investment purposes, but does not include a digital representation of fiat currencies”. The VASP Act makes a distinction between a virtual asset, as defined above, which will be regu¬lated, and a “virtual service token”, which is defined as “a digital representation of value, which is not transferrable or exchangeable with a third party at any time, and includes digital tokens whose sole function is to provide access to an application or service or, to provide a service or function directly to its owner”.

The distinction is meant to deal with the usual question as to whether or not a digital token or coin is a security or a utility token. Virtual service tokens will be treated as utility tokens and, therefore, will fall outside the registration regime and the licensing regime under the VASP Act. Section 3(2) of the VASP Act makes this clear by stating: “For the purposes of this law, virtual service tokens are not virtual assets and a person or legal arrangement that provides services that involve virtual service tokens only are not required to have a licence or registration under this law.”

What are virtual asset services?

The VASP Act states that virtual asset service means: (1) the issuance of virtual assets; or (2) the business of providing one or more of the following services or operations for, or on behalf of, a natural or legal person or legal arrangement:

(i) Exchange between virtual assets and fiat currencies;

(ii) Exchange between one or more other forms of convertible virtual assets;

(iii) Transfer of virtual assets;

(iv) Virtual asset custody services; or

(v) Participation in and provision of financial services related to a virtual asset issuance or the sale of a virtual asset.

Who is a VASP?

A person is a virtual asset service provider (VASP) under the VASP Act if it is: (1) a company, or a general partnership, or a limited partnership, or a limited liability company, or a foreign company registered in the Cayman Islands; and (2) providing a virtual asset service as a business, or in the course of business in or from within the Cayman Islands, and is registered or licensed in accordance with the VASP Act, or is an existing licensee that is granted a waiver under the VASP Act.

The trading activity of a Cayman entity to acquire and dispose of cryptocurrencies for its own benefit would not be regulated under the VASP Act, as it is not providing a virtual asset service as a business, or in the course of business. Outside the activity of issuing virtual assets, the VASP Act will only affect persons that undertake virtual asset ser¬vices as a business, or in the course of a business for or on behalf of other persons. A natural person cannot carry on or purport to carry on a virtual asset service as a business, or in the course of busi¬ness in or from within the Cayman Islands.

The VASP Act requires a VASP to either register with the CIMA or be licensed by the CIMA. Whether the VASP will have to register or be licensed will be dependent on the activity carried out by the VASP. However, broadly speaking, in the case of the provision of virtual asset custodial services, or the operation of a virtual asset trading platform (e.g. crypto exchanges, trading platforms), the VASP is required to have a virtual asset service licence. It appears that in most cases where the VASP is carrying on business as a VASP, but is not providing virtual asset custodial services or the operation of a virtual asset trading platform, only registration with the CIMA is required.

Cayman entities operating in breach of the VASP Act without the CIMA registration or a licence with the CIMA (as appropriate) will, among other things, subject VASPs and their operators to substantial administrative fines from the CIMA.