Israel’s Capital Markets, Insurance and Savings Authority (CMISA) recently published drafts of two important circulars regulating financial asset service providers, including provisions regarding the protection of virtual currencies. The first circular deals with the obligations imposed on financial service providers to protect customer assets, including virtual currencies. The second circular supplements the first circular relating to the protection of financial assets and is likely to require financial asset service providers to significantly increase their own funds in order to protect the financial assets of clients.
The purpose of the circulars is to define standard asset protection measures to ensure the proper functioning of financial service providers and to protect the assets of their clients.
Here are the main provisions of the new circular on the protection of financial assets:
1. Corporate governance
Service providers must define a clear division of responsibilities, roles and powers between their various officials in order to deal with the variety of risks inherent in the protection of client assets. The purpose of these provisions is to underline the responsibility of the board of directors vis-à-vis the assets of the clients and to ensure that the service providers act in a systematic and orderly manner by involving all their bodies in the process.
2. Customer Asset Protection Policy
Service providers must establish clear, detailed and orderly policies regarding all activities carried out in connection with the protection of client assets in general and according to the type of financial asset.
3. Provisions relating to the protection of clients’ financial assets
Financial service providers must safeguard client assets in accordance with the provisions of all laws, including the Trusts Act and the Custodians Act. This provision is particularly important in the event of the insolvency of a service provider, since the assets of the clients will not be considered as the assets of the service provider for the purpose of repaying its debts. This provision also clarifies the responsibilities imposed on service providers in the event of a claim and prohibits them from avoiding this responsibility by contractual conditions. The circular also includes provisions regarding the segregation of the assets of clients from those of service providers, in order to prevent service providers from using the assets of their clients for their own needs and from carrying out other irregular actions with customer funds.
4. Document assets and actions performed with client assets
Service providers must document client assets and actions taken with them.
5. Representations and Notices to Customers
In order to increase the level of transparency vis-à-vis customers, the circular proposes to determine that service providers must enable their customers to obtain information on their assets simply and conveniently, both in terms of access only times of access to information will be given.
6. Asset protection through outsourcing
The circular proposes to allow financial service providers to protect their clients’ assets through a third party (outsourcing), who will actually hold the clients’ assets. However, all obligations prescribed by law, including the provisions of the circular, will apply to the service provider itself, even if a third party carries out the activity. On the other hand, outsourcing is a way for service providers to reduce the capital they need to maintain.
7. Provisions relating to the protection of virtual currencies
The protection of virtual currencies differs from the protection of conventional financial assets. Among other things, the protection of virtual currencies exposes service providers to increased risks, such as cyberattacks and technological failures. Therefore, CMISA proposes to impose additional provisions on crypto custodians:
a. Service providers must have the necessary expertise and technological means to protect virtual currencies.
b. Transactions using virtual currencies or transfers of virtual currencies from cold wallets to hot wallets and vice versa will require the approval of at least one additional agent of the financial service provider and the receipt of additional approvals in accordance with established policy .
vs. Financial service providers will be able to engage with a crypto custodian through outsourcing in an effort to protect their customers’ virtual currencies.
D. Service providers who wish to protect their customers’ virtual currencies other than by outsourcing must meet criteria of experience and degree of supervision that apply to them.
Please note that in addition to increasing the material obligations to be imposed on financial service providers, which include the protection of client assets, CMISA also intends to significantly increase the capital that service providers will be required to to keep at least 2 million ILS for the custody of conventional financial assets and at least 5 million ILS for the custody of virtual currencies. These sums will increase in line with the increase in the volume of activity of the service providers and also according to the risk incurred.
The circulars will enter into force within six months from the date of their publication. CMISA is currently inviting the public to submit comments.
The backdrop to these two circulars is the ongoing investigation and insolvency actions of the crypto-custodian of Celsius’s assets, which have shocked the crypto industry and sparked a new push to tighten regulation. of the crypto industry.
Given that the circulars will have practical implications for those engaging in the provision of financial asset services as soon as they are issued, and that the drafts raise complex issues as to their scope, we recommend that entities operating in this sector to take advantage of this window of opportunity and send their comments to the CMISA before November 16th.