Tokenization:

Security Token
Offering Law
 CONTENTS
1 Tokenization in Practice
2 Jurisdiction: EU and US
3 Primary and Secondary Offering
4 Managing KYC & KYB
5 Investment Memorandum & Prospectus
6 Overview of Jurisdictions
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1
Tokenization in Practice

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 Definition of Tokenization

Tokenization is the process of creating a digital representation of an asset or

property.

It enables the owner of the asset to securely transfer ownership to another

party without actually transferring the asset itself.

Tokenization is used in a variety of industries, such as real estate, art, music,

finance, and more.

Tokenization provides numerous benefits, including increased liquidity, cost

savings, and reduced risk.

It also enables faster, more secure transactions, as well as greater

transparency and traceability of assets.

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Tokenization and the Law Securities law

Corporate Law

Contract law

AML Regulations

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Security Token
Offering
A STO is a method of fundraising using
blockchain technology and digital tokens.

STOs enable companies to raise capital

STO from a wide range of investors, and are

subject to securities regulations.

Generally, STOs are governed by the

same set of rules and regulations
applicable to other security offerings (e.g.
IPOs)

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Legal Structure of a Tokenization
Project

Structuring for most

assets involves:

Securitization of the
Representation of
assets in a Special
ownership or interest
Purpose Vehicle
in the SPV via tokens
(SPV)

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 Step 1 STO structuring example: real estate linked token
Securitize real estate assets in a holding
company, which will be a subsidiary of
the SPV
Step 4
Step 2
Create an SPV which will serve as the
Security Token
STO vehicle and will tokenize all or part
Investors
of its equity

Step 3 Token proceeds Ownership and

Acquire all or substantially all ownership dividend rights
in the RE Holding Company. This Step 1 Step 2
structure can be adjusted for both when
the issuer is looking to raise the funds Real Estate Step 3 Special Purpose
before acquiring the real estate or after Holding Company Vehicle
its acquisition.
Real estate proceeds
Step 4
Tokenize all or part of the equity of the
SPV and issue security tokens. The token
grants the investors a shareholding right
Real
in the SPV. They receive voting and Estate
dividend rights Shareholders
Asset

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STO Structuring example: revenue-linked royalty token

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Types of Securities

The ability to represent a

Tokenization does not certain financial
Different types of Equity, bonds, derivatives, change the nature of the instrument with a token
securities may be commodities, royalty underlying instrument → depends on the specifics
tokenized rights, etc. largely the same laws of the corporate, securities
apply and contract law of the
chosen jurisdiction

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2
Jurisdiction: EU and US

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 Choice of Jurisdiction for Security Token Offering

When considering a security token offering, understanding the regulatory

landscape in various jurisdictions is key to the successful launch of a token.

Issuers must take into account a variety of factors, including the

jurisdiction's crypto-friendly regulations, tax laws, and investor protection
measures to ensure a successful offering.

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Choice of Jurisdiction: Main Legal Factors

Types of exceptions
Ability to represent Licensing
available under Passporting and
financial instruments requirements under Tax implications
financial promotions access to markets
in tokenized form securities laws
legislation

•Representation of •Private/public •State or federal •Fund license,

interest or offering exceptions level, EU/EEA area, broker-dealer, AML
ownership in SPV •Fundraising limits, etc. license, etc.
(shares, bonds, etc.
derivatives) •Permissible types
•Possibility to of investors
transfer legal title in
tokenized
securities
electronically
(without the
involvement of
notary or similar)

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Overview of EU Securities Laws

Markets in Crypto-Asset Regulation

• Are security tokens covered?

Markets in Financial Instruments Directive II

• How are security tokens classified under MiFID II?

EU AML Directives
• What are the implications?

EU Prospectus Regulation
• How can STOs be promoted in the EU?

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EU Markets in Types of instruments covered:
Crypto-Assets
Regulation
Crypto-assets (catch-all category)
•- a digital representation of value or
Regulates Crypto Asset rights which may be transferred and
stored electronically, using
Service Providers distributed ledger technology or
(CASPs) and certain types similar technology.
of crypto-assets across
the EU
Asset-referenced token
•- a type of crypto-asset that purports
Does not apply to to maintain a stable value by referring
to the value of several fiat currencies
financial instruments that are legal tender, one or several
under MiFID II commodities or one or several
crypto-assets, or a combination of
such assets.
E-money token
•- a type of crypto-asset the main
purpose of which is to be used as a
means of exchange and that
purports to maintain a stable value
by referring to the value of a fiat
currency that is legal tender.
Utility Token
•- type of crypto-asset which is
intended to provide digital access to
a good or service, available on DLT,
and is only accepted by the issuer of
that token”
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MiCA Regulation: Proposed Regime

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 MiFID II and Security Tokens

Definition of financial instrument under MiFID II:

“A financial instrument is an asset or evidence of the ownership of an asset, or a contractual

agreement between two parties to receive or deliver another financial instrument.” (Commission
Staff Working Document Impact Assessment Accompanying the document Commission
Delegated Regulation supplementing Regulation (EU) No 600/2014)

Different types of financial instruments are included in Section C of MiFID II.

Most relevant in the context of security tokens are: “1) Transferable

securities”; and “3) Units in collective investment undertaking"

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 Units in collective
investment undertaking
(a) shares in companies and (c) any other securities giving the right to
(b) bonds or other Instead of the nature of
other securities equivalent acquire or sell any such transferable
forms of securitised
to shares in companies, securities or giving rise to a cash the instrument, we look
debt, including
partnerships or other settlement determined by reference to
depositary receipts at the overall structure
entities, and depositary transferable securities, currencies,
in respect of such
receipts in respect of
securities;
interest rates or yields, commodities or of the STO and whether
shares; other indices or measures."
it qualifies as an
undertaking for
collective investment in
transferrable securities
Four-step Test: (UCITS) as defined in
Article 1(2) of Directive
2009/65/EC or an
4. Representation of alternative investment
1. 3. rights similar to
Transferability
2. Negotiability
Standardization established classes of fund (AIF) as defined in
securities Article 4(1)(a) of
Directive

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 EU AMLD

AMLD5 “virtual asset” means 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 digital representations of fiat currencies,
securities or other financial assets;

Security tokens are covered as financial instruments

KYC/AML

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Overview of EU Securities Laws

Offers of securities to the public require an approved prospectus

• Art. 3 (1) PR “securities shall only be offered to the public in the Union after prior publication of a
prospectus in accordance with this Regulation.”

Allows passporting across the EU/EEA area

Exemptions
• the total consideration of each such offer in the Union is less than a monetary amount calculated over a
period of 12 months which shall not exceed [EUR 1m - 8m] (threshold depends on the Member State)
• Offer is addressed only to qualified investors
• Offer is addressed to a maximum of 149 non-qualified investors per Member State
• Minimum ticket size is EUR 100,000

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US Securities
Laws 1933 Securities Act
The US Securities Act of 1933 is a federal law
that requires companies to register their
securities with the Securities and Exchange
Commission (SEC) and provide investors with
comprehensive disclosure documents.

FinCEN AML

State Laws

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Howey Test

1 2 3 4
A party invests In a common With the expectation Based on the efforts
money enterprise of profiting of a third party

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 Reg D Reg S
• Includes only accredited • For international investors
investors (non-US persons)
Exemptions
under the
1933 Act

Reg CF Reg A/A+

• Up to USD 5 million • USD 20m - 75m
• Including retail investors • Including retail investors

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AML FinCen

• US Anti-Money Laundering Act 2020

• Financial Crimes Enforcement Network (FinCEN)

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Delaware

Delaware is one of the most progressive states when it comes to

tokenization laws, having created its own token law in 2019.
The token law in Deleware is intended to protect consumers and investors
while encouraging the use of tokens for financial transactions

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Wyoming
Wyoming Bill 185 introduced in 2019 allows corporate stocks to be
tokenized. The legislation permits the storing, issuing, and digital
transfer of these tokenized securities.

“The articles of incorporation or bylaws of a corporation may specify

that all or a portion of the shares of the corporation may be
represented by share certificates in the form of certificate tokens.”

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3
Primary and Secondary Offers

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 Overview of EU Securities Laws

Primary Offering
• A primary offering is the first issuance of stock from a private company
• A private company can raise equity capital through a primary offering, which the
company may use to expand its business operations.
• Corporate issuers of primary offerings must file a prospectus or rely on an applicable
exception in the applicable jurisdiction

Secondary Offering
• A secondary offering occurs when an investor sells their shares to the public on the
secondary market after an initial public offering (IPO).
• Proceeds from an investor's secondary offering go directly into an investor's pockets
rather than to the company.
• Corporations can also sell shares through secondary offerings, which are also
referred to as follow-on offerings, to raise capital or for other reasons.
• Follow-on offerings can be either dilutive, which results in an increase in shares, or
non-dilutive, where new shares are not created.
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 Prospectus

the total consideration of each such offer in the Union is

less than a monetary amount calculated over a period
of 12 months which shall not exceed [EUR 1m - 8m]
(threshold depends on the Member State)
Offer is addressed only to qualified investors
Offer is addressed to a maximum of 149 non-qualified

EU investors per Member State

The minimum ticket size is EUR 100,000

Thresholds by EU Member States -

https://www.esma.europa.eu/sites/default/files/library/esma31-62-1193_prospectus_thres
holds.pdf

Definition of “qualified investor”

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 US Reg D

Regulation D permits issuers to broadly solicit and generally advertise an offering, provided that:

all purchasers in the offering are accredited investors

the issuer takes reasonable steps to verify purchasers’ accredited investor status and

certain other conditions in Regulation D are satisfied

Rule 506(b) permits the raising of an unlimited amount of money and the issuer can sell securities to an
unlimited number of accredited investors, subject to the following:

no general solicitation or advertising to market the securities

securities may not be sold to more than 35 non-accredited investors (all non-accredited investors, either alone or
with a purchaser representative, must meet the legal standard of having sufficient knowledge and experience in
financial and business matters to be capable of evaluating the merits and risks of the prospective investment)

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US Regulation S

Regulation S is an excellent
addition to Reg D because
Regulation S requires that
Reg S allows non-U.S.
Regulation S provides safe the investment offer and
investors to invest in a U.S.
harbour provisions for sale must be made to
company or a non-U.S.
offers and sales of investors that are made
company on the same Reg
securities made outside the outside the US, and US
D terms, but with no
US. persons must not be shown
requirement to be
non-US investor terms.
accredited (wealthy)
investors.

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US Reg CF

Regulation Crowdfunding enables eligible

companies to offer and sell securities through
crowdfunding. The rules:
• require all transactions under Regulation Crowdfunding to take place
online through an SEC-registered intermediary, either a broker-dealer or a
funding portal
• permit a company to raise a maximum aggregate amount of $5 million
through crowdfunding offerings in a 12-month period
• limit the amount individual non-accredited investors can invest across all
crowdfunding offerings in a 12-month period and
• require disclosure of information in filings with the Commission and to
investors and the intermediary facilitating the offering

Securities purchased in a crowdfunding

transaction generally cannot be resold for one
year.

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US REG A
Tier 1 Tier 2
Regulation A is an exemption
from registration for public
for offerings of up to $20 for offerings of up to $75
offerings. million in a 12-month million in a 12-month
period; and period.

Regulation A has two offering

tiers: There are certain basic requirements applicable to both Tier 1
and Tier 2 offerings, including company eligibility
requirements, bad actor disqualification provisions, disclosure,
and other matters.

Additional requirements apply to Tier 2 offerings, including

limitations on the amount of money a non-accredited investor
may invest in a Tier 2 offering, requirements for audited financial
statements and the filing of ongoing reports. Issuers in Tier 2
offerings are not required to register or qualify their offerings
with state securities regulators.

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Secondary Trading

Carried out on stock markets and other secondary trading venues

In US
• Alternative Trading Systems (ATS)
• National Stock Exchange
• Broker-Dealer operated platforms

In EU
• Multilateral Trading Facilities (MTFs)
• Investment Firm operated platforms

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Examples

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4
Managing KYC & KYB

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 What is KYC/KYB?

Know Your Customer (KYC) and

Know Your Business (KYB) verification is

process used by businesses to verify the identity of their customers and assess their
suitability as clients

It involves collecting customer data and documents such as a passport or driver’s license
to confirm the customer’s identity and check for any possible risk factors

In STO context, it is essential to have proper AML procedures and to KYC/KYB every
investor

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 When the relevant circumstances
When onboarding the investor
of the investor change

KYC
Procedures

When to KYC?
In the event of a suspicion of In the event of doubt concerning
money laundering or terrorist previously obtained details on
financing the customer

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KYC Procedures
Identity details must be verified against a reliable and
independent source.
Which details must be obtained to
verify identity? The persons must be screened for AML including
sanctions, criminal and PEP lists

PEP – politically exposed person is a person with a

prominent public function and can therefore be susceptible
Natural persons Legal persons to bribery and corruption.

valid passport or company name and

driving license registration number

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Beneficial Owners
The undertaking must:

implement reasonable if the customer is a legal

obtain identity details on the
measures to verify the identity person, identify its ownership
beneficial owner(s),
of the beneficial owner(s), and and control structure.

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Payment Providers

In STO context, this means

AML law requires source of Crypto, on the other hand, can
that if an STO project is
funds verification for bank be accepted directly without
accepting fiat it will likely be
transfers and other licensed intermediaries in
required to work with a
transactions in fiat most jurisdictions
payment provider

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 AML Policy

Documents
and AML Risk Assessment
Providers

KYC/AML provider

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