How First-Class Regulatory Innovation Can Be Crucial To A Jurisdiction

The Digital Assets and Registered Exchanges Act 2020 – otherwise known as the DARE Act – and the Investment Funds Act – or IFA 2019 – have gained international acclaim for their innovative, pragmatic responses to vexing regulatory concerns. Legislative initiatives are opportunities to solve problems but they are also opportunities to innovate. At the Securities Commission of The Bahamas (SCB), we are deeply committed to coping with regulatory risks pragmatically, taking the view that this will distinguish us from others.

Legislative initiatives are opportunities to solve problems but they are also opportunities to innovate

Before 2019, by way of illustration, the legal framework that governed investment funds had not kept pace with international best practices and standards. It had supported The Bahamas’ wealth management industry at the start of the millennium, but a peer review that The Bahamas underwent as part of the International Monetary Funds’ Financial Sector Assessment Programme in 2012 found it to be deficient in several key areas.  As for the digital assets space, despite its growing importance to investors and wealth managers there was no body of law in place to provide much-sought-after legal and regulatory clarity.

In both instances, the Commission found itself in a position to use its technical expertise to develop legislation and recommend same to the Government of The Bahamas. We looked at the needs of stakeholders, prioritised those needs and then came up with – and carried out – pragmatic, sustainable, best-in-class solutions.

Pragmatic Licensing Triggers For Investment Funds

The IFA 2019 dictates that an investment fund that carries on (or attempts to carry on) business in or from The Bahamas must be licensed as a Standard, Professional, or Specific Mandate Alternative Regulatory Test (SMART) fund. ‘Carrying on business’ in this context now applies to an investment fund that is incorporated in The Bahamas or offered for sale to non-accredited investors in The Bahamas. An investment fund is therefore required to be licensed based on the activity that it conducts or intends to conduct rather than on whether or not certain service providers to the fund are located or licensed in The Bahamas.

Regulatory Responsibility Among Related Parties

The previous investment fund legislation did not provide for the regulation of investment managers and placed burdensome responsibilities on investment fund administrators for funds licensed in

The Bahamas. This may have met the needs of the primary users of investment funds in the early 2000s – private banks and trust companies servicing their clients – but as the funds industry evolved, this misalignment of responsibilities became too onerous for administrators and did not address the lacuna of fiduciary duties which should be the responsibility of the investment manager.

Funds needed flexibility in selecting administrators and non-accredited investors expected to be able to deal with vetted and licensed investment managers. The IFA 2019 brought these things about by arranging for the licensing and supervision of investment managers.

Administrators From Prescribed Jurisdictions

A fund based in The Bahamas is no longer required to appoint an investment fund administrator in The Bahamas to provide its principal office. Investment fund administrators for Bahamian investment funds may be licensed under the Investment Funds Act, or licensed and operating in any prescribed jurisdiction anywhere in the world. This approach opens the door for international administrators to license funds under the Act.

Appointment Of Investment Fund Managers

The IFA obliges each fund to appoint an investment fund manager, except in some very specific circumstances. The investment manager must be licensed if the fund is being sold to non-accredited investors but the manager or fund need not be licensed if the fund is being sold to accredited investors only. Importantly, the fund may appoint an investment manager licensed or registered in a prescribed jurisdiction without the need for licensing in The Bahamas. In such a case, there is a simple registration process.

Custodians And Operators

Each investment fund must appoint a custodian that must be independent of its administrator, manager and operator, unless the fund’s operators certify that the fund’s structure or the nature of its assets do not require the appointment of a custodian. An investment fund’s operators are determined based on its legal structure.  Operators are responsible for the operation of the fund in compliance with the IFA. The operator is subject to an assessment of its fitness and propriety and must be independent of the administrator, unless exempted from this requirement, or the fund is structured as an investment condominium.

Access To EU Markets

Finally, the IFA 2019 is also compliant with the European Union’s Alternative Investment Fund Managers Directive, or AIFMD. This allows The Bahamas to qualify for 'passporting' in accordance with the Directive. The law grants a distinct licence to a manager that operates in the European Union or manages funds from the EU.

The IFA 2019 is also compliant with the European Union’s Alternative Investment Fund Managers Directive

The IFA 2019 also addresses the EU’s standards for investment funds regarding the regulation of auditors. Every fund that does not submit to a full annual audit is required to receive a certificate every three years from a qualified accountant that states that its books are being maintained in line either with International Financial Reporting Standards or the United States’ Generally Accepted Accounting Practices.  Auditors must be approved by the Commission if they want to act on behalf of regulated persons.

The Need For Legal Certainty Regarding Digital Asset Business

The SCB’s primary objective in developing the DARE Act was to bring regulatory certainty to the dynamic, fast-paced and evolving crypto-space. The Commission had already spotted the potential that the space represented for The Bahamas’ wealth management industry as the interest of investors in financial technology (FinTech) and crypto-assets was increasing globally.  The SCB fielded interest from international FinTech operators that wanted to operate in a well-regulated, compliant jurisdiction. The Government of The Bahamas had also made it clear that it intended to transform the jurisdiction into a regional FinTech hub.

The Need For Regulatory Flexibility As The Market Develops

Given that the digital assets market or crypto-space is still in its infancy (or, in any event, far from mature), it was clear to the Commission that it needed to establish a legislative framework that was not overly prescriptive. The Act allows the jurisdiction to be nimble and able to react to new risk-related trends, or market development opportunities, as the evolving landscape demands.

To develop the legislation, the Commission first conducted a benchmarking exercise of 13 select jurisdictions, concentrating on their approaches to regulation and also on global standards and best practices in the business of digital and virtual assets. It reached out to other regulators with relevant experience and consulted the financial industry and other stakeholders.

The DARE Act came into effect on the 14 December 2020. It provided much sought-after clarity and successfully established a Bahamian legal and regulatory regime for the registration of digital token exchanges and for the issuance of digital tokens through initial token offerings.

DARE defines salient terms such as digital asset business, digital assets service provider, digital token, non-fungible token, utility token and virtual currency token, among others. It intentionally does not set out to answer the question of whether a digital asset is a security or not.

The Act defines various types of digital assets and is clear about what is in scope for regulation. It also recognises digital assets or crypto-currencies as members of their own asset class.

By giving the space its own regulatory regime, The Bahamas has removed the narrow question of whether a crypto-currency is a security and has, instead, provided a framework whereby digital assets can be addressed holistically.

The Need For Compliance With Global AML/CFT/PF Standards

DARE's approach to global anti-money-laundering standards and standards that counter the financing of terrorism and the proliferation of weapons of mass destruction (AML/CFT/PF) is vitally important. The Commission continues to concentrate on complying with the Financial Action Task Force’s (FATF) Recommendation 15 (R15), along with its evolving interpretative notes. In keeping with R15's principles, DARE subjects the digital assets business to the primary national AML/CFT/PF legislation of The Bahamas, which includes the Proceeds of Crime Act 2018, the Anti-Terrorism Act 2019 and the Financial Transactions Reporting Act 2018. In keeping with the FATF's recommendations, DARE focuses AML/CFT/PF supervision and oversight on the digital asset service provider rather than on the new technologies themselves.

The term ‘beneficial owner’ in DARE is assigned the same meaning as in The Bahamas’ Proceeds of Crime Act. DARE requires financial institutions to perform initial risk assessments prior to launch. The Act requires digital-asset businesses to have systems in place to prevent and detect money laundering, terrorist financing and suspicious transactions and report the reasons for their suspicion to relevant competent authorities.  They must also comply with the Securities Commission’s rules, polices and guidelines that govern risk management and the prevention of money laundering and terrorist financing. 

The Government of The Bahamas intends to transform the jurisdiction into a regional FinTech hub

On 16 March 2022, the Commission published its AML/CFT/PF Rules for DARE. These rules are based on the FATF’s Recommendation 15 and its interpretative notes.  They are supplementary to DARE and are also expected to evolve as the market evolves.

A Flexible Jurisdiction

Pragmatism is a key consideration for The Bahamas in its approach to regulation and the jurisdiction continues to watch as trends indicate a move towards securities and other asset classes becoming tokenised. We are also mindful of recent emerging risks that came to the fore in the aftermath of the great bear market or “crypto-winter” of 2017-18. These risks must now be addressed in the regulatory framework and clear best practices must be established to protect investors.

Pragmatism is a key consideration for The Bahamas in its approach to regulation

If you know anything about The Bahamas, you know that we do not view our size as a handicap but as something that we can use to our advantage. The access that we, as regulators, have to industry players and regulatory addressees, policy makers and the consumers and investors whom we aim to protect, allows us to identify and act on urgent matters and to be innovative in providing pragmatic solutions to regulatory concerns.

Christina Rolle can be reached on +1 242 397 4100 or at info@scb.gov.bs

Christina R. Rolle
Ms. Christina R. Rolle is Executive Director of the Securities Commission of The Bahamas, having been appointed 26 January 2015. Ms. Rolle holds an MBA from Kellogg School of Management, Northwestern University, and is an alumna of Harvard Business School. She has more than 25 years of experience in the financial services industry. Prior to her appointment as Executive Director, Ms. Rolle has acted as Director and Deputy CEO for a prominent international private bank and held various senior managerial positions with local and other international institutions including Head of Trust and Fiduciary, Head of Risk, Compliance and Corporate Governance and Manager of Banking Services. Ms. Rolle was a member of the FATCA advisory group for the Government of The Bahamas and has served on the Board of Directors of The Bahamas Financial Services Board (2009-2012) and the Society of Trust and Estate Practitioners (STEP), Bahamas branch (2003-2005). Ms. Rolle currently serves as Vice Chair of the Inter-American Regional Committee (IARC) of the International Organization of Securities Commissions (IOSCO) and is also a member of IOSCO’s Board of Directors. During her tenure at the Securities Commission, Ms. Rolle has directly overseen the development and enactment of several pieces of legislation which are administered by the Commission: the Investment Funds Act, 2019 which provides for the licensing and regulation of investment funds, fund administrators as well as fund managers; the Financial and Corporate Service Providers Act, 2020 which regulates various non-bank financial and corporate service activities; the Digital Assets and Registered Exchanges Act, 2020 (DARE) which provides for the registration and distribution of digital tokens as well as the registration and regulation of digital token exchanges and other digital asset businesses; and the Carbon Trading Act, 2022 which provides for secondary market trading of carbon offset credits. In April 2020, Ms. Rolle was appointed to The Bahamas’s Economic Recovery Committee to make recommendations to the Cabinet on the long-term economic recovery of The Bahamas economy in response to COVID-19.