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Following the Financial Services Commission (FSC)’s announcement of the
“Measures to Overhaul Regulations to Permit Issuance and Circulation of Security Tokens” in February 2023,the first financial service related to the issuance and circulation of trust beneficiary certificates linked to blockchain tokens was designated as an innovative financial service on April 30, 2024 (the Innovative Financial Service). This article provides insights into the specifics of this Innovative Financial Service, as advised by Lee & Ko’s Digital Finance Group, along with key considerations for a financial service aiming to be designated as an innovative financial service before the amendments of the relevant laws are implemented.
I. Background
In February 2023, the FSC announced the “Measures to Overhaul Regulations to Permit Issuance and Circulation of Security Tokens” to address the escalating demand for issuing and trading various securities utilizing distributed ledger technology. This guideline outlined principles for determining whether digital assets utilizing distributed ledger technology can be classified as securities. Furthermore, it included plans to overhaul the relevant regulatory framework, as amendments to the Financial Investment Services and Capital Markets Act of Korea (the FSCMA) are necessary for the circulation of investment contract securities and the issuance and circulation of beneficiary certificates of non-monetary trusts and amendments to the Act on Electronic Registration of Stocks and Bonds (the Electronic Securities Act) are required for the issuance and circulation of security tokens.
However, the FSC also announced that, even before the aforementioned amendments are implemented, the circulation of investment contract securities and the issuance and circulation of beneficiary certificates will be tested, to the extent necessary, through designation as an innovative financial service (financial regulatory sandbox) if such services are recognized for their innovation.
II. The Innovative Financial Service and its Significance
The Innovative Financial Service entails Galaxia Moneytree Co., Ltd. (i) purchasing aircraft engines through a special purpose vehicle, (ii) entrusting the aircraft engines to a trustee, (iii) issuing trust beneficiary certificates by registering such certificates on the electronic registry and (iv) distributing such certificates to investors through a distribution platform.
However, financial authorities have stated that, before the Electronic Securities Act is amended, the issuance of security tokens functioning as electronic securities is not permitted. Thus, the trust beneficiary certificates involved in this service are issued by electronic registration, and the tokens linked to these certificates are subsequently issued and traded.
These trust beneficiary certificates enable investors to receive a portion of the revenue generated from lease contracts for aircraft engines. Therefore, this service is significant as it presents a secure and innovative investment opportunity for retail investors regarding aircraft engine leases, expanding beyond traditional fractional investments in real estate, artwork, and music copyrights.
Additionally, it is noteworthy for providing domestic airlines with a spare engine leasing service (the Ministry of Land, Infrastructure and Transport recommends that airlines maintain spare engines equal to 10% of their engines for stable operation and safety) funded through the issuance of trust beneficiary certificates, substantially enhancing aircraft safety and competitiveness.
As mentioned, the significance of the Innovative Financial Service lies in being the first case of issuing beneficiary certificates linked to blockchain tokens designated as an innovative financial service through the financial regulatory sandbox after the FSC’s announcement of the “Measures to Overhaul Regulations to Permit Issuance and Circulation of Security Tokens”. This unprecedented case allows for the preemptive identification of various regulations and precautions in the process of issuing and circulating non-monetary trust beneficiary certificates, practical issues in circulating tokens, and factors to consider for a service to be designated as an innovative financial service before the amendments are made to the FSCMA and the Electronic Securities Act.
III. Implications
As demonstrated in the aforementioned case, a multi-faceted and comprehensive review of various factors is necessary for a service to be designated as an innovative financial service before the relevant regulations, such as the FSCMA and the Electronic Securities Act, are amended to implement legislation related to security tokens.
To achieve this, it is essential, even from the selection process of the underlying asset and product, to review innovativeness of the service and the potential to provide consumer benefits and other benefits, as well as the feasibility, objectivity, and methodology of valuation, including consideration of any relevant legal restrictions or issues. Additionally, a macroscopic/regulatory review of the relevant industry and its future implications is also necessary. Also, any legal and practical issues that may arise concerning the contemplated business structure and the entrustment of the underlying asset should be thoroughly reviewed in advance. Ensuring compliance with policies set by supervisory authorities and identifying potential misunderstandings early in the process as well as facilitating implementation of the contemplated service through active communication are also key measures. Other considerations include the infrastructure required for the contemplated service, methodologies and procedures for sharing and protecting personal data, and the mirroring of tokens with the relevant trust certificates.