As stated in the Global Fintech Report Q2 2018, published by CBINSIGHTS, during the first half of 2018 fintech projects attracted around UDS 57.9 billion of financing globally. Traditional institutions, bankers and big corporate players are facing an increasing lack of trust, and with that — the need to adjust to innovations. Fintech companies are here to close this gap and transform the financial market.
However, the fintech industry is facing constant disruptions caused by the lack of regulation, cyber-attacks, the absence of the so-called “human touch”, limited access to financing and the unreadiness of the banking sector to diversify. Among the many fintech market players, there exist fintech and crypto lawyers that make up the vast fintech legal sector.
We went to Brightman FinTech Law Firm, a boutique law firm, located in Kyiv, Ukraine, and is now focusing on the US emerging fintech market, having established in the fall of 2018 its representative office in New York City. Despite the company’s “freshness” on the Ukrainian legal market, its core team became engaged with the fintech and crypto industry from the first days of its formation in Ukraine. Providing ongoing legal support to the Ukrainian and foreign fintech and e-commerce start-ups, IT companies, cryptocurrency platforms, ICOs and venture capital investors, Brightman’s co-founders refer to the fintech market as a blockbuster whose footage evolves furiously. Krystyna Nyemchynova and Dmytro Honcharenko, the fintech “movie crew”, claim that it is now the right time to sit and watch fintech supersede conventional finance.
UJBL: Fintech is a new industry that is demonstrating extremely rapid development and spread across the globe. What are the core fintech trends today?
Dmytro Honcharenko: Digital transformation is rapidly changing the way we live and run business, and financial technologies and financial services industries are at the forefront of such transformation. Over the course of 2018 we have advised a number of venture capital funds and start-ups bringing artificial intelligence (AI), augmented analytics and machine learning experiences into the financial sector. AI based bots are one of the examples of how fintech solutions can ease the processing of payments. For instance, via various messengers, or help to make an investment decision based on the analyzed data in seconds. I think that in 2019 these fintech trends will keep growing. Another huge thing is, of course, blockchain, whose application in the digital word shall reach far beyond the main hypes of 2018, which are ICOs and cryptocurrencies.
With the PSD II Directive coming into force this year Europe experienced massive raise of Open Banking leads and API-based start-ups changing traditional way of various banking services, and Ukrainian entrepreneurs are staying abreast with the trend. Both Ukraine and the globe experience booming of corporate accelerators in 2017-2018 and 2019 will surely follow the trend, providing loads of billable hours for lawyers across various fields of law.
UJBL: How is the fintech industry developing in Ukraine? Do you predict any of the mentioned Western trends here?
Krystyna Nyemchynova: I foresee the immense opportunities for the growth of the fintech market in Ukraine. I guess it all started when Ukraine appeared among the world’s ten leading countries by the number of cryptocurrency users. There was also a report presented by UNIT.City and USAID on the development of the fintech industry in our country. It turned out there were more than 80 fintech companies successfully operating in Ukraine. Despite constant crisis periods on the fintech market, including the lack of regulation and the instability of the investment market, the fintech ecosystem keeps growing rapidly in our country and can easily claim its status of a ‘life vest’ for the Ukrainian economy.
UJBL: The past year was probably the milestone period in the introduction of cryptocurrency regulations worldwide. How does it affect the crypto market?
D. H.: You are definitely right in your observation that during the past year regulators across the globe, including Ukrainian authorities, kept a keen eye on the crypto industry. It’s not just ICOs that they were looking at, but also crypto-trading and mining. The use of blockchain technology by well-built corporations and big retailers also attracted the interest of regulators and raised many antitrust and privacy law concerns.
Adoption of various regulations across the globe led to a drastic change of fundraising methods. For example, instead of public sale of tokens (ICO) that we had in the beginning of 2018, today we have a trend of security token issuance among closed community, making institutional investors and VC-alike crypto-funds the main source of funding. Many countries now regard crypto-assets as property, thus applying property tax rates to crypto, unlike in 2017 when it was commonly acknowledged that neither crypto nor operations with it are taxable. Despite numerous attempts in the US and other leading nations, crypto exchange-traded funds (ETFs) have not been launched yet, making it almost impossible for ‘big players’ to pump funds into crypto. Which results in crypto-trading market stagnation and sluggishness in cloud mining.
UJBL: How do you see the role of governments in regulating the fintech and crypto markets?
K. N.: As unpopular as my opinion may sound, I don’t believe in the absence of government regulation in fintech and crypto industries. With all due respect for the decentralized nature of blockchain and crypto, government regulation is inevitable when it comes to the protection of business, investors’ rights and eliminating cyber-risks. The latter go hand in hand with the tech development. As previously mentioned, the lack of regulation is one of the key obstacles for the fintech. With the absence of regulation and having no understanding of the authorities’ position regarding cryptocurrency and token offerings, we adhere to what we call ‘the legal creativity’. Start-ups and ICO developers enjoy the simplicity and transparency of this market, but we always advise our clients to comply as much as possible with the existing legislation. This includes proper tax filing, licensing, compliance with securities legislation, corporate structuring of your business, compliance with anti-money laundering and counter-terrorism financing rules. Banking compliance is unavoidable, too. No matter how non-conventional our clients are, it is our job as lawyers to make sure that not a single law is violated when the regulators try to come after you — and they always do eventually.
I hope that governments will take a leading role in the ‘fintech movie’ and will fill in the blank spaces for lawyers who work in this industry. I also want to believe that they will recognize that fintech is already a significant milestone in our lives and that their decisions will boost the market growth.
UJBL: How do these decentralized platforms effect doing business in Ukraine?
D. H.: DLT platforms have gained a big popularity in Ukraine across many industries, including start-ups, as well as some old-fashioned businesses. We have certainly watched many software development agencies, specializing in smart contracts and custom blockchain applications blossom during the past year. Many companies use blockchain technology to deliver various solutions for e-government, distribution and logistics. N-iX, which is one of the leaders of the Eastern Europe software development arena, also hails from Ukraine.
Some of the blockchain-based projects we have supported introduce decentralized system for cryptocurrency payments to Ukrainian and global e-commerce & retail industries, or act as a payment service provider via Facebook and other messengers. Some of them introduce blockchain into robotics, or tokenizing renewable energy po-
werplant and farming land in western Ukraine.
The legal sphere is also transforming thanks to decentralized platforms. There are many chat-bots being created and functioning, which cuts the price of trademark registration, divorce application, lawsuit search or real estate due diligence. And the list goes on and on. There are lots of projects successfully operating for a couple of years now, and those who are developing and introducing new ways of conducting business not only in Ukraine, but worldwide as well.
UJBL: What is the impact of ICOs and token offerings on investment attractiveness of Ukraine?
K. N.: It could be lifesaving for the investment market of Ukraine which is going through a really tough time. It could enable foreign capital flows to our country, and demonstrate Ukraine’s potential as a global marketplace for ICOs and blockchain technology. And it’s not just ICOs, but venture capital investments as well. I am really fascinated by the work that the Ukrainian Venture Capital and Private Equity Association does — their recent research proves that global investors are expecting more private and venture funds to come in sight in Ukraine. Top ICOs originated from Ukraine have attracted unprecedented investments, and the figures are quite startling.
The only obstacle is the fact that, unfortunately, all successful ICOs incorporate their business elsewhere but in Ukraine. Offshores are still popular, though we see a number of pitfalls with these jurisdictions. I’m sure we will live up to the day where our firm will recommend Ukraine as one of the most reputable and trustworthy jurisdictions for venture capital funds and token offering companies incorporation. Switzerland is a great example, Lichtenstein and Luxembourg, as well. Or we could go the opposite way and become an offshore for crypto and blockchain business. Our IT sector is one of the most dynamic in the world, and I definitely imagine Ukraine as a global IT-cluster for start-ups from all over the world.
UJBL: The fintech industry has become a unique ecosystem bringing together inventors, investors and a range of advisors. What is the role of legal counsels in this ecosystem?
D. H.: Fintech and crypto-lawyers are indeed among the key players of the ecosystem. We not only advise our clients on corporate structuring and tax planning in various jurisdictions, supporting, for instance, crypto-license applications or supervising legal part of technology commercialization. We also frequently negotiate with the banks on AML and KYC issues on behalf of the client, or act as a matchmaker between start-ups and potential investors. In many scenarios, legal counsels in this industry act as international project managers bringing together various puzzle pieces from legal, businesses development, marketing, PR, IT and other showgrounds.
UJBL: How would you describe the current role of lawyers in turning ideas into commercial technologies?
K. N.: Like I said, “legal creativity” allows commercial technologies to advance forward even in the absence of regulations. We have seen a large number of bright ideas, but none of them will work if you do not hire a qualified lawyer. The situation may certainly change, especially with the speculation around artificial intelligence replacing humans, but let’s be honest, lawyers are not going anywhere, yet. As long as you have to report your income gained from the token offering, or register your STO with the US Securities and Exchange Commission, or find the accredited investors to sell your tokens to — you will need legal advice. Look at all those cryptocurrency platforms that served the US customers without the Money Services Business license and ended up in jail. I bet their founders were smart enough to launch the product, yet naïve enough to assume the regulator wasn’t watching them.
Besides, lawyers also participate in the legislative process when it comes to crypto and token offerings. I’m confident that lawyers who actually have practical experience in the field need to step in when the regulator wishes to draft a bill regulating crypto and blockchain. Otherwise, it will be an ordinary archaic bureaucratic process that is completely inapplicable. What I mean is that lawyers carry out this “reality check” for the regulators.
UJBL: Fintech start-ups certainly require access to international investors to develop and scale the provided service. Could you describe the specifics of investment into fintech start-ups?
D. H.: Like I said before, fintech start-ups are multiplying, with more and more funds being pumped into fintech sector, therefore, more and more regulations are being put in place. In my opinion, many of the fintech start-ups and their investors fail to attract funds or invest in the right projects, due to such common mistakes as not taking legal considerations seriously or failing to understand that it takes some time to actually raise funds and use them.
The industry is no longer the Wild West. Institutions like the SEC are taking a more and more serious approach to regulating the market. The legal aspects of launching a crypto start-up include, for example, compliance with a number of capital markets and securities regulations, privacy laws, taxation, personal data protection and others. Therefore, it’s crucial to actually take some time to analyze the project’s business model in order to understand where the company is incorporated and whether all necessary licenses have been obtained before launching the crowdfunding.
It should always be kept in mind that funding a new crypto or fintech idea is still a high-risk investment, so the approach similar to VC financing shall be taken. Thus, an investor should always conduct at least a red flag due diligence of a project, and sign a package of investment documents, which inter alia may include a shareholder agreement, equity/token vesting agreement and other agreements.
K. N.: Investing in fintech projects can become a game of charades if you are not cautious enough. I would say, start with a background check of the project’s founders. Many of them come from traditional business, and that would be an added value to the project. Because the fintech industry is still new, investing in a project run by an experienced professional is a plus. Reputation means a great deal. ICOs, for example, are a quite well-regulated industry these days, though I remember the time when it was all merely about trust. This probably doesn’t sound like a legal advice, but you should trust your gut, too. The human factor also matters, and by that I mean gather as much information as possible about the ICO/STO’s founders. Do they stick to deadlines? If they don’t, you may rest assured that the roadmap of the project will be violated regularly, and that project’s deadlines will be postponed, which is not a good sign. I like to say that every start-up or ICO/STO founder is either your friend or a friend of a friend, so it wouldn’t be difficult to track this person’s history of doing business.
As for the legal aspects, entrust this to a legal counsel. The lawyer’s background also matters. It has to be someone with an experience in securities legislation, corporate and taxation, data protection and banking and finance. Your legal counsel will not only audit the project, but advise you on various issues once you’ve started earning income. This, for example, includes filing taxes. The more meticulous and shrewd your legal counsel is, the better. I know this sounds very lawyer-ish, but no one is perfect, anyway.