In Brief:
- Following public consultations that commenced in September 2023, the DIFC is on the verge of issuing two significant new laws – on Digital Assets and on Security.
- The Digital Assets Law will, in addition to defining the scope of digital assets, regulate, among other things, establishment and passage/transmission of title and control thereof.
- The new Law of Security, modelled on the UNCITRAL Model Law on Secured Transactions issued in 2016, is expected to include digital assets within its scope and make improvements to the existing Law of Security while continuing to regulate security creation and perfection with respect to movable assets and fixtures and retain the existing security register and filing processes.
Body:
In September 2023, the Dubai International Financial Centre (DIFC) commenced public consultations on a new Digital Assets Law (DAL) and a new Law of Security (LoS, and collectively, with the DAL, the New Laws). Following public consultations, we understand that the implementation of the DAL and the LoS is imminent. Although the final versions of the New Laws are awaited along with the announcement of their implementation, they are expected to address the issues mentioned below. This article is not a commentary on the New Laws but a note setting out the key points that the New Laws are expected to address.
Digital Assets Law
It is expected that the DAL will address, among other concepts: (a) the definition and characterization of digital assets; (b) the concepts of control and title and the general rules applicable in connection therewith as applied to digital assets and rules governing the transfer of title to digital assets; and (c) an “impairment regime” which will describe circumstances where liability arises in connection with parties dealing in digital assets.
The definition of a digital asset is expected to include the satisfaction of the following conditions: (i) existence as a manifestation of a combination of software operation and network-instantiated data; (ii) existence independent of particular persons or legal systems; and (iii) exhibiting characteristics of rivalrousness and non-duplication (i.e., the use or consumption by one person of such asset precluding the use and consumption by another). Given this, cryptocurrencies, stablecoins and NFTs are expected to qualify as digital assets, in line with market expectations.
The concept of control is expected to be the key factor with respect to determining title to a digital asset, along with the intention to exercise control. Control over a digital asset is expected to be deemed to exist if the person asserting control can show the following: (i) the ability to obtain substantially all the benefit from the digital asset; (ii) the exclusive ability to prevent others from obtaining substantially all the benefit from the digital asset; (iii) the exclusive ability to transfer the above-mentioned abilities to another person; and (iv) the ability to identify oneself as having the above-mentioned abilities. Control of a digital asset by itself (absent anything else) is expected to confer superior legal title over other aspects or elements. A transfer of title of a digital asset is expected to be achieved if the transferor has control over, and an intention to transfer, the digital asset.
The DAL is also expected to cover the rules of liability that would apply in instances where one person impairs the ability of another (who is legally entitled) to use such digital asset as well as differentiating between the types of impairment (reckless v. intentional) and highlighting the defenses that may be asserted against a charge of impairment.
Other consequential amendments
The potential issuance of the DAL has necessitated further amendments to other existing DIFC laws so as to enable the smooth functioning of market practices relevant to digital assets in the context of the potential application of such DIFC laws to the same. Among the key laws to be subject to such amendments are the Personal Property Law (DIFC Law No. 9 of 2005), the Law of Obligations (DIFC Law No. 5 of 2005), the Contract Law (DIFC Law No. 6 of 2004), the Implied Terms in Contracts and Unfair Terms Law (DIFC Law No. 6 of 2005), the Law of Damages and Remedies (DIFC Law No. 7 of 2005), the DIFC Trusts Law (DIFC Law No. 4 of 2018), the DIFC Insolvency Regulations (currently the consolidated version 2 in force on 7 March 2022) and the Law of Security (DIFC Law No. 8 of 2005) (the ELoS). Although it is not feasible to go into the detail of each proposed amendment for the purposes of this article, a few examples of such proposed amendments are as follows: (a) to expand the scope of avoidance of a contract for mistake under the Contract Law to include instances of automated acceptances by computer programs without any human interference where it is contrary to commercial standards of fairness; (b) to include the concept of digital assets (by cross referencing it to the DAL) in, among others, the Personal Property Law, the Trusts Law, the Law of Obligations and the Law of Damages and Remedies; and (c) changes to the bona fide purchaser rules set out in the Personal Property Law.
Law of Security
The Law of Security (DIFC Law No. 8 of 2005) is proposed to be repealed and replaced with the LoS – this is as a result (partially) of the impact that the DAL will have with respect to creating security interests and also in light of the “rapid developments in international trade and financial markets arising from technological developments” in order to bring the law of security regime “in line with international best practice” (as quoted from the consultation paper issued by the DIFC).
In light of the stated objectives, the LoS is largely based on the UNCITRAL Model Law on Secured Transactions issued in 2016, but including changes that are designed to make the LoS work efficiently in the DIFC legal framework and with the DAL. Broadly speaking, the LoS is expected to regulate security creation and perfection over movable assets and “fixtures” – defined as something that was originally a chattel, but which has since become attached so as to become part of a “real property”.
As with the ELoS, the LoS addresses the key aspects applicable to security interests – the rules of creation, effectiveness against third parties, priorities and rights and obligations of third parties.
Certain key features of, and/or initiatives under, the LoS are as follows: (a) potential recognition of rent as a receivable, thereby permitting creation of security exclusively over such receivable; (b) introduction of a concept of an “acquisition security right” and related rules (including the stipulation of a “super priority” ranking in certain cases) which are designed to enhance the positon of, mainly: (i) creditors taking benefit of security interests in the context of acquisition financings; (ii) lessors of tangible assets where the lease term exceeds one year; and (iii) persons providing financing for commercial consignments; (c) introduction of provisions relating to creating and perfecting security interests over digital assets and electronic trade documents (defined in the “to be amended” Law of Obligations as documents in electronic form that are commonly used for trade in or transport of goods or the financing thereof); and (d) limitation of the application of anti-assignment provisions in certain types of contracts which would have prevented the assignment between security grantors and security creditors.
Further, it is expected that the DIFC Financial Collateral Regulations 2019 (FCR 2019) will be repealed; the matters regulated thereunder will be regulated in Part 8 of the LoS which is expected to cover, among others and in addition to those already covered by the FCR 2019, commodity futures contracts and interests therein and money claims arising out of close out netting arrangements. Part 8 is also expected to stipulate rules governing, among others, effectiveness against third parties and priority of competing interests. The DIFC Securities Regulations 2019 are expected to continue with minor consequential amendments.
It is also worth noting that it is anticipated that no changes will be made to the security registry, filing processes and fees in order to retain a sense of continuity from the ELoS.
Conclusion/Recommendation: The New Laws signify the continuing intent and objective of the DIFC to cement its reputation as a leading jurisdiction for, and as the pre-eminent hub of, financial activity. The DAL in particular will establish and settle the legal framework for digital assets such as cryptocurrencies and NFTs and is expected to substantially enhance opportunities for commercial activity in relation to such assets. The LoS will no doubt enhance the clarity and certainty with respect to creation and perfection of security which will make secured lending more efficient.
For any queries on this, please feel free to reach out to the Hadef & Partners Banking and Finance team.