ICO: Legal Classification of Tokens: part 2 - security token

By Dr. Michael Jünemann, Johannes Wirtz


Part 2/5 - Security Token: By issuing security tokens the issuer promises some sort of return. Token can qualify as securities according to the German Security Trading Act (WpHG) and German Security Prospectus Act (WpPG), or as capital investments, according to the German Capital Investment Act (VermAnlG).

The introductory part 1 is available here.

Features of securities

The essential features of securities are comparatively clearly and narrowly adapted to the capital market. In order to fulfil the concept of securities, a token must be standardized, negotiable and transferable in (capital) markets [i].

If the token is similar to (regularly securitised) stocks, bonds and certificates, it is obvious that a security is at hand. A restriction of negotiability, for example due to restriction of transferability, cannot change anything in the securities’ characteristics[ii]. If the equity token is a share of a GmbH (limited liability company), the securities’ feature is not at hand due to the formal requirement of notarisation. [iii]

While the security characteristics for equity tokens can simply be determined according to the classic categories, it is not clear for debt tokens. In this case, the three essential features of securities have to be considered, with debt tokens usually being structured in a transferable manner.

Standardisation: Each token of an ICO must contain the same characteristics, so that a sufficient degree of certainty is achieved simply by indicating the number. The individual tokens must be interchangeable and determinable as to type and number; they must be fungible[iv]. It is sufficient for BaFin (Federal Financial Supervisory Authority) that a plurality of investment instruments is exchangeable and identical in their essential characteristics (obligor, maturity, type and scope of associated rights).

The requirement for standardisation shows that a general statement cannot be made for tokens; not even for security tokens. If the issuer offers to individually adjust the maturity, volume or basic price of the respective token according to the wishes of the purchaser in deviation from the usual underlying model (often 100 tokens = 1 USD), there is no standardisation.[v]

Capital market negotiability: The prerequisite of transferability is logically required for negotiability on the capital market. It is true that there are ICOs for which non-transferable tokens are issued, yet this is the exception.

Security tokens are not traded in the classic scopes of the capital market. These include the organized market (sec. 2 (5) WpHG) and off-market trading (non-organized market), i.e. trading via multilateral trading systems (sec. 2 (3) no. 8 WpHG) or on the OTC ("over the counter") market[vi]. If securities can be traded on an organized market or through multilateral trading systems, the European Commission considers this an indication of negotiability. The trade with security tokens, but also with other types of tokens, takes place on so-called "crypto exchanges". As far as apparent, a common "market" on which both classic securities and tokens are traded does not yet exist [vii]

BaFin assumes without further substantiation that crypto exchanges could be regarded as "financial markets or, respectively, capital markets as defined by securities[viii]". This is certainly the case when currency tokens, which are financial instruments, are traded there. However, if trading is limited to utility tokens that do not constitute financial instruments in our opinion, there is no similarity.

The negotiability on a crypto exchange does not correspond to the negotiability of classic securities on the capital market (irrespective of the exact distinction of the capital market). The classic understanding of capital market negotiability is based on the possibility of bona fide purchase[ix]. It is required for the functionality of the market that the title can be traded without restrictions. Unlimited negotiability on the market requires that transactions can be processed securely and easily and that there can be no objections from third parties.[x]

Qualification as securities

The German legislator expects this basic understanding: it expressly requires that shares in partnerships be comparable with stocks, which would mean that a certain embodiment of the shares would take place which would enable bona fide purchase; this would not be the case with a transfer by assignment. [xi]

The literature almost unanimously shares the view that, under German law, negotiability only by assignment precludes qualification as securities for lack of the possibility of bona fide purchase[xii]. BaFin also emphasizes this circumstance when stating that the decisive circumstance for the concept of fungibility is the question of transfer: tradable securities must be able to be "transferred exclusively under property law"; an assignment under the law of obligations is not sufficient.[xiii]

The view that Capital Market Law does not regulate the transfer of rights from securities, but rather regulates processes and control market behaviour and that there is thus no need for bona fide purchase as a prerequisite of the capital market[xiv], fails to recognize the connection. An essential element of negotiability on the capital market is bona fide purchase. This serves as a distinction from other markets, for example the market for uncertificated standardized credit claims or for capital investments.

Capital investments regulated by the VermAnlG may also be transferred. However, they are not traded on the capital markets because the possibility of bona fide purchase is not inherent to said capital investments. The essential difference between securities and an investment is the negotiability on the capital market.[xv]

bona fide purchase

The bona fide purchase of bearer instruments is governed by secs. 793, 932 et seqq. German Civil Code (BGB). For other classic securities, such as order instruments, there are special statutory provisions (cf. for example Art. 16 (2) WG (Law on Bills of Exchange and Promissory Notes) (possibly in conjunction with sec. 68 (1) sentence 2 AktG (German Stock Corporations Act). For debt tokens to also be sufficiently negotiable one of the aforementioned provisions would have to apply or a specific legal provision would have to exist.

The mere characteristic of a data packages has not resulted in the applicability of principles of bona fide. Property rights to data are not at hand[xvi] and a bona fide purchase according to secs. 932, 935 BGB is not possible[xvii] . A bona fide purchase cannot be carried out with data packages or tokens as such; it must be focused on the underlying right. If this right (e.g. an interest claim or profit sharing) is transferred by assignment within the meaning of sec. 399 BGB or by assumption of contract, a bona fide purchase is excluded. There is no room for an analogous application of the property law transfer regulations, the applicability of which has partly been discussed but not yet decided[xviii]. The absolute validity effect limits the analogy capability.[xix]

In literature, it is partly stated that as far as the rights of the token do not refer to (im-)movables, a bona fide purchase cannot be carried out. Blockchain technology would, however, provide a substitute. The cryptographic rendition of the chain of ownership would allow for each transmission to be transparent in a way that the ownership of the underlying right is inseparably linked to the token by "tokenisation". This would provide sufficient security against ineffective token transfers for capital market trading.[xx] ]

According to this view, "tokenisation" and the data written on the blockchain would be considered similar to a public register such as the land register or, with restrictions, the commercial register, thus subject to public credence. However, this is de lege lata precisely not the case here.

There is also a lack of comparability with bonds negotiable on the capital market. With bonds, a bona fide purchase is possible (even in the case of stolen or otherwise lost certificates). Even in the case of an invalid transfer agreement for negotiable instruments, a claim may arise in connection with the bona fide purchase of the certificate in accordance with the principles of prima facie liability. [xxi]

The above is based on the very strong and legally detailed position of certificates as prima facie documents in legal t. This is not the case for tokens. If tokens are issued on the basis of an invalid transfer agreement for negotiable instruments, a claim against the alleged issuer does not arise. It cannot be gathered from the individual token what rights it is to contain. The transfer agreement for negotiable instruments and its conditions are usually not registered on the blockchain. Even if this is the case once, as it is technically possible, tokens do not have a signature (cf. sec. 793 (2) BGB) or a comparable scriptural act as a link to the prima facie certificate. [xxii]

As stated before, there is no specific statutory provision that gives tokens a legal character similar to that of a bond; unlike certificates, simple data packages do not constitute sufficient prima facie documents.

If a Private Key does not remain secret, an unauthorized person can use it to dispose of tokens. In contrast to the provisions for bearer bonds that enjoy extended bona fide rights protection (bona fide purchase of stolen or otherwise lost property (sec. 935 (2) BGB))[xxiii], corresponding provisions for data are lacking. A certificate can only ever be in the possession of one person, data can be copied without an original being detectable. The token would have to be retransferred[xxiv]as the right on which it is based and its valid transfer must be considered. The argument that a purchase process cannot be reversed due to anonymity and that this results in functional equivalence with a bona fide purchase[xxv]is untenable.

If pickpocketing is taken as an example of an anonymous process, it becomes obvious that the circumstance of presumed finality[xxvi] does not legally imply equivalence with bona fide purchases. On the contrary, theft or other loss (with the exception of bearer securities) generally excludes bona fide purchases. Tokens can only be effectively transferred by the respective authorized person. At all times, the assignment only takes place inter partes and does not lead to equivalence with the bona fide purchase with inter omnes effect. It would require a legislative act if tokens were to be granted the status of a "digital certificate". [xxvii]

The legal consequence is obvious: If the token has been transferred by a person who is not entitled to the underlying right, the actual holder of the claim can also demand "reversal"; i.e. the underlying right has never been transferred, but the data packages must be returned.

Conclusion for Security Token

With equity tokens, one can rely on the classic securities and investment categories. With view to German companies, this frequently constitutes a stock, as other forms of participation are not suitable for a token.[xxviii]

Debt tokens cannot be classified as securities because of their unrestricted negotiability and lack of comparability with bonds. Debt tokens can therefore generally not be classified as securities.

Since the entry into force of the law on the protection of retail investors it is obvious that particularly debt tokens, which are not securities, are capital investments. Depending on the respective structure, the rights subject to the token may represent one of the capital investments listed in sec. 1 (2) VermAnlG[xxix] In principle, all forms of capital investments can be taken into consideration; particularly shares that grant a participation in the performance of a company do not necessarily have to constitute participation under corporate law.[xxx]

Capital Investment or Investment funds?

To the extent that tokens constitute shares in investment funds pursuant to sec. 1 (1) Capital Investment Act (KAGB), a classification as a capital investment would be excluded. It is partly suggested that the purchasers of tokens are GbRs (companies constituted under civil law). The purpose of the GbR is to finance the issuer and it also serves as an investment fund within the meaning of the KAGB. In the typical structure of tokens, however, neither a GbR between the purchasers nor an investment fund is at hand; but at the same time, an ICO could probably also be structured as a GbR or an investment fund. [xxxi]

In the case of a typical ICO, a GbR does not emerge between the purchasers. An agreement ("by articles of association") between the purchasers on the promotion of a common purpose would be required pursuant to sec. 705 BGB[xxxii]An agreement requires a corresponding intention to create legal relations. However, the purchasers usually do not know each other.

Other than that, there is no investment fund at hand that would have invested in the issuer of the tokens in the typical structures. Several characteristics are lacking: neither investments are pooled nor capital is collected by means of or for the investment fund. The purchasers do not invest their funds jointly. All purchasers acquire their own tokens and thus their rights against the issuer. There is no pooled investment.[xxxiii]

In addition, investment decisions are not made for the purchasers. They themselves specifically decide for a certain token. [xxxiv] The issuer is usually not an investment fund as it is an operating company outside the financial sector. In addition, the ICO would principally be prohibited, since the KAGB excludes a GbR, but instead implements an obligation to maintain another formal legal structure. [xxxv]

Security tokens are subject to a prospectus requirement either as securities or, in the absence of negotiability on the capital market, as capital investments in Germany (irrespective of the issuer's registered office), unless one of the exceptions provided for in the WpPG or the VermAnlG applies[xxxvi]. Exceptions are to be examined in a case-by-case review. After briefly entering into the technical structure of tokens and the legal classification of security tokens in the first part of this essay[xxxvii], the next part is going to further examine currency tokens and utility tokens. In this regard, we are not discussing technical differences (if present at all).


* The authors thank Timo Förster for his support.
* This article was originally published in German language in Zeitschrift für das gesamte Kreditwesen 2018 (21-23), p. 1117-1121, p. 1222-1226.


[i] Cf. inter alia: explanatory memorandum with regard to the Financial Market Directive Implementation Act, Bundestag document 16/4028 , p. 53; Kumpan, in: Baumbach/Hopt, German Commercial Code, 37th edition 2016, sec. 2 WpHG, marg. no. 2; Fuchs, in: Fuchs, (footnote 35), sec. 2 WpHG, marg. no. 10.

[ii] Cf. Fuchs, in: Fuchs, (footnote 35), sec. 2 WpHG, marg. no. 15.

[iii] Cf. Fuchs, in: Fuchs, (footnote 35), sec. 2 WpHG, marg. no. 15.

[iv] Cf. Kumpan, in: Baumbach/Hopt, (footnote 42),sec.  2 WpHG, marg. no. 2; Kumpan, in: Schwark/Zimmer, Kapitalmarktrechts-Kommentar [commentary on the Capital Market Law], 4th edition 2010, sec. 2 WpHG, marg. no. 7; as well as BaFin, information sheet on financial instruments (stocks, investments, debt instruments, other rights, shares in investment funds, money market instruments, foreign exchange and units of account); edited on July 19, 2013.

[v] BaFin, information sheet on financial instruments (stocks, investments, debt instruments, other rights, shares in investment funds, money market instruments, foreign exchange and units of account), (footnote 45).

[vi] Cf. Wehowsky, in: Erbs/Kohlhaas, Strafrechtliche Nebengesetze [supplementary penal provisions], 217. EL Oktober 2017, sec. 2 WpPG, marg. no. 1; Zickgraf (footnote 6), 299 et seq.

[vii] Cf. Kumpan, in: Schwark/Zimmer (footnote 45), sec. 2 WpHG, marg. no. 9; Fuchs, in: Fuchs (footnote 35), sec. 2 WpHG, marg. no. 16.

[viii] Also Hacker/Thomale (footnote 18), p. 21.

[ix] BaFin, advisory letter (footnote 7); also without substantiation Fußwinkel/Kreiterling (footnote 6) p. 61; Weitnauer (footnote 6), 233.

[x] Cf. Wehowsky, in: Erbs/Kohlhaas, (footnote 47), von Ammon, in: Siering/Izzo-Wagner, VermAnlG, 2017, sec. 1 VermAnlG, marg. no. 32., sec. 2 WpHG, marg. no. 2; different interpretation Zickgraf (footnote 6), 301. which is subject to the circular conclusion that the existence of a "secondary market" without legal protection through the possibility of bona fide purchase would result in this possibility being unnecessary for negotiability on the capital market. It is precisely the question of whether these secondary markets are part of the capital market.

[xi] Cf. Wehowsky, in: Erbs/Kohlhaas, (47),sec.  2 WpPG, marg. no. 2; Fuchs, in: Fuchs (footnote 35), sec. 2 WpHG, marg. no. 18; Kumpan, in: Schwark/Zimmer (footnote 45), sec. 2 WpHG, marg. no. 9.

[xii] Bundestag document 16/4028, S. 54; before also referred to as Bundestag document 12/6679, p. 39.

[xiii] Cf. Wehowsky, in: Erbs/Kohlhaas, (footnote 47), sec. 2 WpHG marg. no. 2 as well as sec. 2 WpPG, marg. no. 2; Müller, in: Müller, WpPG, 2nd online edition 2017, sec. 2 WpPG, marg. no. 2; Kumpan, in: Schwark/Zimmer (footnote 45), sec. 2 WpHG, marg. no. 9; Fuchs, in: Fuchs (footnote 35), sec. 2 WpHG, marg. no. 18; Keunecke, Prospekte im Kapitalmarktrecht [Prospectuses in Capital Market Law], 2005, marg. no. 167; Groß, in: Groß, (footnote 35), sec. 2 WpPG, marg. no. 3 (with reference to Bundestag document 15/4999); Ritz, in: Just/Voß/Ritz/Becker, WpHG, 2015, sec. 2 WpHG, marg. no.  20; only different interpretation: Assmann, in: Assmann/Schneider, WpHG, 6th edition 2012, sec. 2 WpHG, marg. no. 8.

[xiv] Cf. BaFin website, Prospectus requirement, last edited on November 1, 2013, available from: https://www.bafin.de/DE/Aufsicht/Prospekte/Wertpapiere/Prospektpflicht/prospektpflicht_node.html

[xv] See Zickgraf (footnote 6), 301 et seq.

[xvi] Cf. von Ammon, in: Siering/Izzo-Wagner, (footnote 53), sec. 1, marg. no. 30 et seqq.

[xvii] Cf. Regional Court of Konstanz, judgment dated May 10, 1995, docket no.: 1 S 292/95, NJW 1996, 2662; Engelhardt/Klein, MMR 2014, 355, 357; Lerch, JBB 2015, 190, 195; Wagner, in: Münchener Kommentar zum BGB, 7th edition 2017, sec. 823 BGB, marg. no. 294; Fritzsche, in: BeckOK BGB, Bamberger/Roth/Hau/Poseck, 44th edition, as of: November 1, 2017, sec. 903 BGB, marg. no. 10.

[xviii] Cf. for Bitcoins Lerch, JBB 2015, 190, 195 et seq.

[xix] Cf. Spindler/Bille, WM 2014, 1357, 1363.

[xx] Shmatenko/Möllenkamp, MMR 2018, 495, 497.

[xxi] Cf. Hacker/Thomale (footnote 18), p. 22; Zickgraf ((footnote 6), 298) also understands the advisory letter of BaFin dated February 20, 2018 as such; however, this interpretation is not followed. BaFin states that the securitisation in a certificate is not required, but that a documentation on the blockchain is sufficient. BaFin does not make any reference to negotiability. Zickgraf thus concludes that BaFin waives the requirement of bona fide purchases. This is not the case; BaFin clarifies that a transfer under substantive law is required, not only an assignment under the law of obligations (cf. BaFin, Prospectus obligation (footnote 57)). Here, BaFin only repeats that a securitisation is not required. Other legal systems do not necessarily require a securitisation for bona fide rights protection, but this must not lead to the inapplicability of (German) securities regulations. As a further argument, Zickgraf contradictorily refers to "the greatest possible publicity" and at the same time "anonymity" in order to substantiate the security of the blockchain (AG 2018, 293, 301).

[xxii] Cf. Habersack, in: Münchener Kommentar zum BGB, 7th edition 2017, sec. 793 BGB, marg. no. 27 et seq.

[xxiii] Different interpretation Krüger/Lampert, BB 2018, 1154, who probably support an analogous application of secs. 793 et seqq. of the BGB without discussing the requirement of a signature.

[xxiv] Cf. Vogel, in: beck-online.GROSSKOMMENTAR [Comprehensive Commentary], editors: Gsell/Krüger/Lorenz/Reymann, editor: Köndgen, as of: November 1, 2017, sec. 793 BGB marg. no. 1.

[xxv] Different interpretation Zickgraf (footnote 6), 301, who assumes a factual finality of the unauthorized transfer due to anonymity.

[xxvi] See Zickgraf (footnote 6), 301.

[xxvii] In 2017, only about 6.3% of pickpockets were cleared, see Police Crime Statistics (PKS 2017).

[xxviii] Cf. Oppenheim/Romba, Initial Coin Offering (ICO) from a legal point of view: The token as a digital certificate? dated February 12, 2018, https://www.it-finanzmagazin.de/initial-coin-offering-ico-rechtliche-sicht-token-digitale-urkunde-65569/ (retrieved on October 8, 2018)

[xxix] Krüger/Lampert, BB 2018, 1154, 1156 consider trusts as possible solutions.

[xxx] Cf. BaFin, advisory letter (footnote 7).

[xxxi] Cf. von Ammon, in: Siering/Izzo-Wagner, (footnote 53), sec. 1, marg. no. 59.

[xxxii] For example, similar to "The DAO", which served as a kind of holding company and invested in blockchain-based investment properties for the purchasers; cf. with regard to "The DAO" for example Simmchen, MMR 2017, 162, 164; Hacker/Thomale (footnote 18).

[xxxiii] Cf. Servatius, in: Henssler/Strohn, Gesellschaftsrecht [corporate law], 3rd edition 2016,sec.  705 BGB, marg. no. 18; Schöne, in: BeckOK BGB, Bamberger/Roth/Hau/Poseck, 44th edition, as of: November 1, 2017, sec. 705 BGB, Marg. no. 8 et seqq.; Schlund/Pongratz, DStR 2018, 598, 600.

[xxxiv] For the requirement of pooled assets cf. Volhard/Jang, in: Weitnauer/Boxberger/Anders, KAGB, 2nd edition 2017, sec. 1 KAGB, marg. no. 5.

[xxxv] For the requirement to surrender the controlling power cf. Volhard/Jang, in: Weitnauer/Boxberger/Anders, KAGB, 2nd edition 2017, sec. 1 KAGB, marg. no. 9; BaFin, letter to the Business Angel Netzwerk Deutschland e.V. dated April 8, 2016 (http://www.business-angels.de/wp-content/uploads/2016/04/Schreiben-BaFin-08.04.2016.pdf).

[xxxvi] Cf. Servatius, in: Henssler/Strohn, Gesellschaftsrecht, 3rd edition 2016, Addendum HGB (German Commercial Code)

[xxxvii] If it is also a unit of account pursuant to sec. 1 (11) no. 7 KWG (cf. BaFin, advisory letter (footnote 7)), there are no further special features, as securities are already included as financial instruments under sec. 1 (11) KWG.

[xxxviii] Jünemann/Wirtz, Kreditwesen 2018, 1117 [Banking].