In light of the recent investigative report on digital assets and the announcement of two new enforcement initiatives – the Cyber Unit and the Retail Strategy Task Force – by the U.S. Securities and Exchange Commission, Estonia is becoming increasingly popular among companies considering fundraising through launches of token-based digital currencies or Initial Coin Offerings (ICO). Other international developments have also contributed towards the attractiveness of Estonia, such as the clarification of a regulatory position on digital tokens by the Monetary Authority of Singapore, the staff notice on cryptocurrency offerings by the Canadian Securities Administrators and the ban of ICOs by the Peoples Bank of China.
Estonia is regarded as one of the world’s most advanced digital nation, being the first country to offer e-Residency, which provides the possibility to establish a company online; manage it remotely and achieve location independence. Openness to digital infrastructure and blockchain technologies on one side and the absence of specific regulations from the other side have resulted in Estonia being regarded as a convenient location for carrying out ICOs.
However, lack of ICO and cryptocurrency specific regulations do not mean the ultimate freedom to act. Although there is no specific regulation on ICOs, the Estonian Financial Supervision Authority (FSA) has published a memorandum in which it shares the view of other regulators in the U.S, Canada and Singapore – that coins/tokens may be regarded as securities in the context of the Estonian Securities Market Act (SMA). This is particularly true for tokens which grant certain rights towards the issuer and/or give investors an earning expectation from their investment. Where digital tokens fall within the definition of securities and constitute a public offer under the SMA, issuers of such tokens are required to register a prospectus with the FSA prior to the public offer of such tokens.
Provisions regarding securities may also apply towards companies who, in the meaning of the SMA, provide investment services. This may apply, for example, to companies who establish a platform for bringing together people interested in acquisition and transfer of security tokens from the one side and the companies providing security tokens on the other side. The SMA requires a specific activity license in order to provide such services.
Additionally, the FSA has also published information about the applicability of various legal acts to ICO-s and other business ventures related to cryptographic assets. As such, even if the coin/token issued in the course of an ICO does not grant its owner any profits or monetary claims, the token issuing company must still adhere to the Law of Obligations and Advertising Act when conducting the ICO. In case the company intends to provide a virtual wallet and/or a fiat-to-virtual currency exchange, the provisions of the Money Laundering and Terrorist Financing Prevention Act must be taken into account, and a specific license to provide such services must be applied for as well.
Regardless of whether the token sale is or should be regulated as a sale of securities, a token issuer should consider drafting a proper whitepaper specifying the technical aspects of the product and the problems it intends to solve. Secondly, as the token sale constitutes a contract between the token issuer and an investor, it is essential to draft the terms of sale of tokens, outlining the offering and the transfer of tokens as well as the limitation of liability of the token issuer.
The situation is clearer in terms of taxation: the Estonian Tax and Customs Board considers digital tokens as non-traditional currencies and, therefore the sale, purchase and buyback of cryptocurrencies are VAT exempt. The Estonian Income Tax Act also does not establish any peculiarities in regard of ICOs compared to carrying out a regular investment round, i.e. the corporate income tax is generally paid only upon the distribution of profits. Tax on earnings (investment) is not paid as long as the earnings are reinvested in the company. Thus, the proceeds from an ICO are not taxed with income tax at the rate of 20/80 until such proceeds are distributed to the shareholders. However, expenses and payments not related to the business, gifts and fringe benefits granted to employees are subject to income tax.
Disclaimer: this article does not constitute legal advice. Before embarking on a funding campaign, please conduct a thorough due diligence to comply with all relevant regulation.