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Take-aways for UK firms from ESMA’s consultation on reverse solicitation

Introduction

On 29 January 2024, the European Securities and Markets Authority (ESMA) published a consultation paper on draft guidelines in relation to reverse solicitation (Draft Guidelines) under the Regulation on markets in crypto-assets ((EU) 2023/1114) (MiCA), ESMA regulates firms intending to offer crypto-asset services and products in the European Union (EU). The purpose of the consultation is to protect EU investors and MiCA-compliant providers and to prevent circumvention of the reverse solicitation exemption.

The Draft Guidelines and the fact that ESMA has defined solicitation “in the widest possible way” sends a strong message to third-country firms (such as UK firms) on the limited situations in which the reverse solicitation exemption applies.

What is reverse solicitation?

The general rule is that firms conducting investment activities or services (such as managing investments) in a given jurisdiction require a license to do so unless an exemption applies. This also applies to firms intending to offer activities or services on a cross-border basis. ESMA emphasises that the principle of the “reverse solicitation exemption” is a prohibition on third-country firms marketing their crypto-asset services and activities within the EU, unless the service was requested at the “own exclusive initiative” of the client.

An established reverse solicitation exemption is article 42 of Directive 2015/65/EU (MiFID II) wherein a third-country firm may supply regulated services, despite not being authorised, if a retail or professional client established or situated in the EU “initiates at its own exclusive initiative" the provision of the relevant investment service or activity. Based on warnings to firms on reverse solicitation in the context of Brexit, ESMA intended the article 42 reverse solicitation exemption to operate restrictively.

Markets in crypto assets regulation

MiCA sets out a bespoke framework for crypto-assets that are not covered under other EU regulatory regimes. It contains requirements for crypto-asset issuers and crypto-asset service providers (CASPs i.e. crypto-asset wallet providers, exchanges and platforms) to comply with various rules, including capital levels, the conduct of business and supervision.

The reverse solicitation exemption (Article 61)

Article 61 of MiCA offers a reverse solicitation exemption under which a third-country firm may provide crypto-assets activities or services to an EU client without needing a licence, provided that the request was at the "own exclusive initiative" of the client. ESMA stresses that – “Article 61 of MiCA should be understood as applying in very limited and narrow circumstances.”

In contrast to the above-mentioned article 42 of MiFID II, the exemption under MiCA has direct effect as it forms part of a regulation.

Solicitation of clients by third-country firms

The Draft Guidelines propose a wide interpretation of “solicitation” that captures the various ways in which a firm may offer crypto-asset service or activity. This includes – “the promotion, advertisement or offer of crypto-asset services or activities to clients or prospective clients in the Union.” ESMA explains that solicitation may take place on online platforms, in-person meetings, sponsorship deals and advertisement campaigns. It may be carried out either by the third-country firm itself or by any other person acting explicitly or implicitly on behalf of the third-country firm, such as celebrities. ESMA cautions that solicitation on behalf of a third-country firm by a regulated person or entity may still be considered as a breach of MiCA.

To reduce abuse of the reverse solicitation exemption, ESMA states that the exclusive initiative of the client should be construed narrowly and based on factual circumstances. It cannot be superseded by contractual arrangements of disclaimers. ESMA also stresses that the reverse solicitation exemption may only be relied upon – “for a very short period of time”. For instance, the – “the lapse of a month or even a couple of weeks between the provision of the crypto-asset service” based on the original exclusive initiative of the client and a subsequent offer by the firm would fall outside of Article 61.

Supervision practices to detect and prevent the circumvention of Article 61

The Draft Guidelines also sets out various supervisory actions that national competent authorities (NCAs) may use to monitor marketing activities of third-country firms targeting EU clients and to prevent the abuse of the reverse solicitation exemption. ESMA points out that online monitoring activities of third-country firms are particularly important as crypto-asset services – “are almost exclusively offered and promoted online”. They also include the use of consumer surveys, cooperation with other authorities and systems to handle clients’ complaints and whistleblowing as means to detect and prevent circumvention.

The UK position

The UK has recently legislated to bring qualifying crypto-assets within scope of the financial promotion regime. In summary, all firms (including overseas firms) marketing crypto-assets to UK consumers must comply with the regime with effect from 8 October 2023.

Crypto-asset promotions to UK consumers that are not within the regime will be in breach of section 21 of the Financial Services and Markets Act 2000 (FSMA), a criminal offence punishable by up to 2 years imprisonment, an unlimited fine or both.

Final thoughts and next steps

If implemented, the Draft Guidelines will strongly influence how third-country firms provide crypto-asset services or activities to EU clients. Given that the Article 61 exemption is narrowly framed, third country firms would be prudent to ensure that they do not solicit EU clients by any means. Further, they should be careful when relying on the narrowly construed reverse solicitation exemption. Third-country firms must also keep records on EU clients who have solicited crypto-asset services and whether the client has initiated the request for service or activity. Third-country firms that fall foul of the Draft Guidelines may face repudiation from the NCA and/ or ESMA.

ESMA invites comments from interested parties, especially CASPs, financial institutions with an interest in crypto-assets and other service providers. This consultation closes on 29 April 2024 and ESMA expects to publish a final report by the end of 2024.

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