Fintech Regulatory Developments: 2022 Year in Review

Fintech Regulatory Developments: 2022 Year in Review

As anticipated in our 2021 year in review, there were significant and notable developments in the Canadian Fintech industry in 2022.

The following is a summary of some of the key Fintech developments in 2022, as well as some regulatory developments on which to keep a watchful eye in 2023.

WHAT WE SAW IN 2022

  1. PAYMENTS DEVELOPMENTS

  • As part of the Bank of Canada’s new authority to supervise retail payment activities under the Retail Payments Activities Act (“RPAA”), the Bank of Canada recently released its Retail Payments Supervisory Framework, which provides insight into how the Bank of Canada will supervise payment service providers (“PSPs”) in relation to operational and financial risks. The framework states that a PSP portal will be developed to facilitate the application and registration for PSPs. The framework also indicates several tools available to the Bank of Canada to enforce compliance under the RPAA, including: compliance agreements, notices of violation, compliance orders and the ability to apply to Superior Court to request a compliance-related order.
  • In March 2022, the federal government appointed Abraham Tachjian as open banking lead. His mandate is to develop an open banking regime based on the recommendations in the final report of the Advisory Committee on Open Banking, (the “Final Open Banking Report”) including designing key pillars of the open banking system such as common rules and an accreditation framework for open banking participants.
  • Four open banking working groups (Accreditation, Liability, Privacy and Security) have been established, each of which includes balanced representations from banks, other open banking participants and consumer representatives. Each working group has met five times of the course of 2022 to progress Canada’s open banking implementation, with a summary of discussion items and the outcomes of each meeting being posted. In relation to accreditation, it appears that federally and provincially regulated financial institutions will be exempt, while others that directly access a data holder’s API or those that collect consumer-permissioned data (possibly with the exception of third party technical service providers and outsourcing service providers to system participants) will be subject to accreditation. The concept of an accredited participant being able to provide sponsored or agency like system access to a third party seems to be accepted, although more stringent accreditation requirements relating to risk management and financial capacity are expected for those that sponsor or have agents. Further, those that are registered provincially as a securities dealer or registered as a payment service provider under the RPAA may be subject to streamlined accreditation process. In relation to certification, it appears that all system participants (even those that are not subject to accreditation) will be subject to certification; however, it is not yet clear whether the certification process should be uniform for all participants or should vary depending on the role of the participant, its size, its role and type of services provided. In relation to liability, little consensus has been reached to date on the legal relationship between participants, how obligations between participants should be addressed and whether open banking end users should have a right of enforcement against participants – so the upcoming year should be informative.
  • Payments Canada completed a number of milestones this year in keeping with its payments modernization initiative as detailed in its 2022 to 2026 Corporate Plan. It deployed new code to Lynx, the high-value payment system which in 2021 replaced the Large Value Transfer System (LVTS), to enable the introduction of the ISO 20022 financial messaging standard. Once this code is released in March 2023, Lynx will be compatible with global risk and operations standards that ensure operability. Payments Canada also announced that, as of November 14, 2022, direct clearers can now access the automated clearing settlement systems (ACSS) outside of Canada provided that they meet certain requirements. Payments Canada’s anticipated Real-Time Rail (“RTR”) payment system work moved forward this year, however the launch has been delayed and a revised timeline has not been released.
  • Payments Canada also modernized its rule in respect of Pre-Authorized Debit (“PAD”) agreements by amending its ACSS Rule H1. The amended rule introduces in new concepts, such as the One-Time PAD that automatically terminates once payment is complete, as well as new disclosure requirements for any arrangement between a payee and a third party entity providing goods or services to a payor. The distinction between electronic and paper PAD agreements was removed, and the definitions in the rule of “authorization” and “commercially reasonable methods” were updated to reflect contextually-appropriate identity verification methods.
  • The federal government also announced in the Budget and the Fall Economic Statement that it intended to “enter into negotiations” with payment card networks, financial institutions, acquirers, payment processors and businesses to lower credit card transaction fees for small businesses while seeking to protect “existing reward points for consumers”. In addition, the federal government proposed legislative amendments to the Payment Card Networks Act. If the amendments come into effect, which is only expected to be the case if the government and payment card industry do not reach an agreed solution, they would grant the Financial Consumer Agency of Canada the power to regulate how fees are determined and disclosed, as well as the notice requirements for changes in fees.
  • Visa and Mastercard amended their rules effective October 6, 2022 to permit Canadian merchants to surcharge customers interchange or swipe fees when using their credit card.
  1. ANTI-MONEY LAUNDERING REGULATORY DEVELOPMENTS

  • On April 5, 2022, amendments to the regulations under the Proceeds of Crime (Money Laundering) and Terrorist Financing Act (“PCMLTFA”) came into force that, among other things, expanded the scope of the PCMLTFA to capture crowdfunding platforms and certain payment service providers (“PSPs”) and amended the definition of electronic funds transfers. The amendments were introduced following developments under the Emergencies Act and the Emergency Economic Measures Order earlier this year, whereby the scope of entities subject to the PCMLTFA as money services businesses (“MSBs”) and foreign money services businesses (“FMSBs”) was temporarily expanded to include crowdfunding platforms and certain PSPs. In July 2022, the Financial Transactions and Reports Analysis Centre of Canada (“FINTRAC”) issued a notice to further clarify which PSPs are subject to the PCMLTFA and must register as MSBs or FMSBs. FINTRAC is now taking the position that persons or entities that provide invoice payment services or payment services for goods and servicesare engaged in the business of remitting or transmitting funds for purposes of the PCMLTFA.
  • In June 2022, the British Columbia government officially released the final report examining the scope of money laundering in B.C., authored by Austin Cullen (the “Cullen Report”). At the forefront of the Cullen Commission’s mandate was spearheading a comprehensive review of the growth of money laundering in the province and formulating recommendations and guidance as to how B.C. could counter this longstanding issue. Mr. Cullen drafted the Cullen Report based on his evidentiary observations stemming from nearly 200 witnesses and approximately 1,000 exhibits over the course of 133 days of public hearings. The Cullen Report sets out 101 recommendations for B.C. and how the province can mitigate money laundering across sectors, including potentially introducing provincial MSB regulation in the province of British Columbia.
  1. CRYPTOCURRENCY AND DIGITAL ASSET REGULATORY DEVELOPMENTS

  • Capital Markets Developments
    • During 2022, the Canadian Securities Administrators (“CSA”), the umbrella organization of Canada’s provincial and territorial securities regulators, registered six crypto asset trading platforms (“CTPs”) as securities dealers in Canada, bringing the total number of firms registered under the CSA’s emerging regulatory framework for CTPs to ten, including eight restricted dealers and two investment dealers that are also members of the Investment Industry Regulatory Organization of Canada (“IIROC”).
    • Three registered CTPs are also regulated as marketplaces for securities in Canada, with Bitbuy Technologies Inc. and Simply Digital Technologies Inc. operating under exemptions from marketplace recognition and Coinsquare Capital Markets Ltd. operating a recognized alternative trading system (“ATS”) for crypto assets.
    • All ten registered CTPs have agreed to terms and conditions (“T&Cs”) of registration which are intended to reduce investor protection risks associated with CTP operations by imposing detailed obligations relating to crypto asset custody, insurance, risk disclosure, product due diligence and, in certain provinces, investment limits on the Canadian dollar value that retail investors may invest in crypto assets other than bitcoin, Ether, Litecoin and Bitcoin Cash.
    • On August 15, the CSA announced a new requirement for CTPs that are working toward registration under securities laws to provide a publicly available undertaking (a “Pre-Registration Undertaking” or “PRU”) in order to continue to provide services in Canada while pursuing registration. These undertakings are intended to provide clarity to Canadian users regarding the regulatory status of various CTPs, and address level playing field concerns raised by registered CTPs regarding their unregulated competitors. Thus far, the two PRUs which have been published suggest that all CTPs pursuing registration will accept T&Cs very similar to those which have been adopted by registered CTPs.
    • On November 22, the Ontario Securities Commission (“OSC”) published its 2023-24 Statement of Priorities, which includes strengthened oversight and enforcement in the crypto asset sector. The OSC signalled that it will continue to register CTPs as dealers, work with IIROC to facilitate restricted dealer CTPs to transition to IIROC, develop a regulatory framework for how investment funds invest in crypto assets and explore the regulatory implications of stablecoins in the capital markets, among other crypto-related priorities.
    • On December 1, the OSC’s Corporate Finance Branch published its 2022 Annual Report, which set out its expectations for public disclosure to be provided by reporting issuers (e.g. public companies) that operate in the crypto asset sector (“crypto asset reporting issuers”), given that the regulatory environment differs across jurisdictions and may be evolving or lack certainty. A crypto asset reporting issuer is required to disclose details of is operations in every jurisdiction where it carries on business, as well as a description of the applicable regulatory regime and steps taken to comply with applicable regulation, including whether legal advice has been obtained. The OSC also identified certain types of events or information that may be material to crypto asset reporting issuers, including a collapse in the price of a crypto asset to which an issuer has material exposure, the entering into by an issuer of an arrangement for borrowing, lending or encumbering the issuer’s crypto assets, including details of the counterparty, and relevant regulatory announcements or actions, such as a regulatory action taken against another issuer with a similar business. This guidance will be relevant to the numerous crypto asset reporting issuers listed on Canadian stock exchanges, which numbered 49 as of March 11, 2021, the time of publication of CSA Staff Notice 51-363 Observations on Disclosure by Crypto Assets Reporting Issuers.
    • On December 12, the CSA announced that it is strengthening its oversight of CTPs by imposing a deadline for all CTPs offering services in Canada to provide a Pre-Registration Undertaking, cease operating in Canada or face enforcement action. In addition, the CSA announced an expansion of the terms and conditions which will apply under the PRU, including requirements to hold client assets with an “appropriate” custodian, segregated from proprietary assets, and prohibitions against offering margin or leverage to any client. These requirements may be more stringent than existing T&Cs and PRUs, which allowed CTPs to hold client crypto assets representing up to 20% of the total value of client crypto assets outside of the custodial account and offer “margin, credit or other forms of leverage” to clients that qualify as “permitted clients” under securities laws.
    • On December 12, the CSA publicly announced for the first time its view that “stablecoins, or stablecoin arrangements, may constitute securities or derivatives”. Many registered CTPs offer Canadian clients the ability to trade in stablecoins. Registered CTPs, as well as CTPs that provide PRUs, are already prohibited from offering Canadian clients the ability to trade in or obtain exposure to crypto assets that are themselves securities or derivatives and are required to have policies and procedures in place to make this determination.
  • Capital Markets Enforcement
    • In 2022, the OSC was the most active Canadian securities regulatory authority in bringing enforcement actions against participants in the crypto asset industry.
    • On March 17, Binance Holdings Limited and Binance Capital Markets Inc. (together, “Binance”) gave an undertaking to the OSC that effectively prohibits Binance from offering any services in Ontario (the “Binance Undertaking”). The Binance Undertaking holds Binance accountable for taking steps to address concerns arising from events beginning in December 2021 when Binance falsely notified investors that it was allowed to continue operations in Ontario after previously announcing its withdrawal from Ontario in May 2021. Then, in January 2022, Binance confirmed to OSC Staff that trading restrictions were in place for Ontario accounts on the Binance platform when in fact Ontario accounts were able to trade. The Binance Undertaking required Binance to adopt procedures for preventing Ontarians from opening new accounts, restricting existing Ontario accounts to “liquidation only”, reimbursing withdrawal fees charged to Ontario clients, retaining a third party compliance consultant and reporting to the OSC. The Binance Undertaking also acknowledged the OSC’s reservation of its rights to bring enforcement proceedings against Binance for other misconduct.
    • In June and October, the OSC made orders against four foreign-domiciled CTPs that offered high risk investment products to retail investors in Ontario, such as margin accounts and perpetual futures contracts which provided up to 100x leveraged exposure to underlying crypto assets: KuCoin and ByBit in June, and Poloniex and OKX in October. All four orders imposed significant monetary penalties on the CTPs relating to their past conduct, but the severity of market restrictions varied significantly based on the extent to which the platform cooperated with the OSC in its investigation.
    • KuCoin and Poloniex did not participate in the proceedings, resulting in adverse inferences by the Tribunal. The platforms were subject to administrative penalties and disgorgement orders in the range of US$2 million to US3.5 million, costs of the investigation and the hearing, and permanent bans from the Ontario capital markets. In contrast, ByBit and OKX cooperated with the OSC’s investigation and negotiated settlements with the OSC. Each platform agreed to disgorge revenues generated from Ontario accounts and pay costs of the proceeding. Each platform also gave an undertaking to wind down most of its existing Ontario business and bring its operations into compliance by pursuing registration under Ontario securities laws. If at any time during registration discussions, the OSC communicates to the CTP that it will not be feasible for it to operate in a manner that is compliant with Ontario securities laws, the CTP agrees that it will completely wind down its Ontario operations.
    • On September 30, the OSC filed a Statement of Allegations against an Ontario resident, Troy Richard James Hogg (“Hogg”) and his affiliated companies in relation to a US$51 million fundraise for “a fraudulent offering of crypto security tokens” to investors around the world. The OSC alleges that while raising funds, Hogg and his companies defrauded investors by using false or misleading statements in promotional materials, and diverted investor funds to purchase assets for the benefit of Hogg and other companies controlled by Hogg. The OSC thanked the U.S. Securities and Exchange Commission (“SEC”) for its assistance with the investigation, and explained that the SEC had conducted a parallel investigation and had filed charges in the U.S. District Court Southern District of Florida against Hogg and several U.S. residents.
    • The OSC’s 2023-24 Statement of Priorities confirms that it will continue to bring enforcement actions against crypto asset market participants to address non-compliance with securities laws, and that it will continue to add crypto firms to investor warning lists. The OSC’s planned outcomes include “increas[ing] public awareness of these complex products, platforms and potential frauds/scams”, and “achiev[ing] an appropriate balance in supporting novel businesses and fostering innovation and competitive capital markets while promoting investor protection”.
  • Federal Digitalization of Money Consultations
    • In November 2022, Deputy Prime Minister and Finance Minister Chrystia Freeland delivered the fall economic statement, which included an outline of the federal government’s plans to understand digital currencies and their effect on the Canadian financial system. This includes targeted consultations with stakeholders on digital currencies, including cryptocurrencies, stablecoins and central bank digital currencies (“CBDCs”). These consultations will form part of the government’s intention to set in motion a financial sector legislative review targeting the digitalization of money and maintaining stability and security in the country’s financial system, previously announced as part of the 2022 budget in April.
  • Office of the Superintendent of Financial Institutions (OSFI) Developments
    • On November 16, 2022, OSFI, the Financial Consumer Agency of Canada (FCAC) and the Canada Deposit Insurance Corporation (CDIC) issued a joint statement to all regulated entities engaging in crypto asset activities or crypto-related services.
    • Alongside the statement, OSFI published a Roadmap for an Evolving Digital Asset Landscape and invited feedback from both regulated and non-regulated entities. The roadmap includes the launch of a regulatory sandbox in the first half of 2023 to enable experimentation of new technologies in a safe environment.
    • Earlier in the year, OSFI issued an advisory setting out its interim approach for cryptoassets held by federally regulated financial institutions (“FRFIs”). This advisory outlines OSFI’s expectations with respect to prudential treatment of cryptoasset exposures, guided by the view that FRFIs should apply conservative treatment and set prudent limits in relation to such exposures. The advisory also provides further guidance on how FRFIs should approach the capital and liquidity treatment of cryptoasset holdings.
  1. LENDING REGULATION

  • In August 2022, the Department of Finance Canada published a consultation paper to solicit feedback from stakeholders, various industry associations, consumer groups, and members of the public relating to the maximum rate of interest under the Criminal Code and the provision of high-cost installment loans in Canada. While the federal government has not yet proposed a new criminal interest rate, the purpose of the consultation was to better understand the impact a rate reduction may have on the availability of credit to Canadians.
  • British Columbia’s high-cost lender regime came into force on May 1, 2022, making it the fourth province after Alberta, Manitoba and Quebec to regulate high-cost lenders. The high-cost lending regime will apply where the interest rate charged exceeds 32%. Lenders offering such products will need to be licensed and certain disclosure requirements and cancellation rights will apply, including a one day cooling-off period.
  1. INSURTECH

  • As anticipated in our 2021 year in review, the Innovation Office of the Financial Services Regulatory Authority of Ontario (“FSRA”), the regulator of insurance companies, credit unions, caisse populaires and loan and trust companies in the province of Ontario, released its Final Innovation Framework on January 24, 2022 following public consultation in 2021. The Innovation Framework describes how the FSRA will identify, manage, and deliver opportunities to enable innovation in regulated sectors. The FSRA also concurrently released the first “test and learn environment” (“TLE”) on January 24, 2022, available for use by the automobile insurance sector. TLEs are a set of virtual environments that allow interested market participants to test out their innovative products, services, and business models using data-driven and evidence-based approaches.

WHAT TO WATCH FOR IN 2023 (AND BEYOND)

  • We anticipate the draft RPAA regulations to be issued for public comment in 2023. The Bank of Canada has announced it is aiming to prioritize PSP registration in 2024 followed by compliance with requirements for operational risk management and safeguarding end-user funds in 2025.
  • We also expect progress to continue with respect to Payments Canada’s anticipated RTR in 2023, although the go live date has not yet been announced. Payments Canada will also be looking into ongoing modernization of the retail batch payments system in 2023 and beyond.
  • The Implementation phase of the Open Banking Implementation Plan is expected to begin in 2023, with the Open Banking Lead overseeing testing of an open banking system and the government starting to formulate elements of an open banking framework, according to the Final Open Banking Report. The Final Open Banking Report initially contemplated a live date of January 2023 for open banking but progress has not kept pace with this ambitious schedule.
  • In terms of cryptocurrency-related regulation, OSFI will be a regulator to watch in 2023. Over the next 24 months, OSFI has multiple projects planned to provide additional clarity on areas of risk management and governance pertaining to digital assets. OSFI’s roadmap also includes a 2023 consultation on risk management expectations for digital currencies, including stablecoins. We also expect the digitalization of money consultations with stakeholders on digital currencies, including cryptocurrencies, stablecoins, and central bank digital currencies to continue into 2023. While they currently “do not have plans to issue a digital currency”, we will also monitor the Bank of Canada’s evolving position on building a digital version of the Canadian dollar, a CBDC.
  • Given the collaboration evident in the OSC and SEC’s investigation and allegations against Hogg and related companies, coupled with the global nature of digital assets, we expect to see greater cooperation among Canadian regulators, with both domestic and foreign agencies.
  • As outlined in their announcement on December 12, 2022, CSA members will contact registered crypto trading platforms individually to discuss the application of the expanded terms and conditions to those firms. The CSA will publish further details about this updated approach in the future.
  • As outlined in the FSRA’s proposed statement of priorities for 2023-2024, the FSRA Innovation Office will leverage the data and knowledge gained from the pilot TLE in 2022 to expand the scope of its TLE model by including more initiatives across regulated sectors in the upcoming years.

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