Key takeaways

Germany has catapulted itself to the forefront of innovation in the financial sector by providing a reliable legal framework for security tokens under the eWpG. After carefully testing the water, Germany will provide a full suite of security tokens, covering debt and equity securities and fund units. A number of banks and investment firms have applied for licenses as crypto securities registrars.

At present, more than 20 crypto securities have already been created and the issuers are not only unknown companies, but also large German banks. This shows that the German financial industry is eager to adapt to the new legal environment and willing to experiment with the regime created by the eWpG.

Highlights from the eWpG

The eWpG introduces two forms of electronic securities, centrally registered securities (Zentralregisterwertpapiere) and crypto securities (Kryptowertpapiere). 

• Centrally registered securities are entered into a central register.
• Crypto securities are registered in a crypto securities register. The idea is to also allow the registration and transfer of electronic securities via decentralized registers using the distributed ledger technology (DLT) also commonly referred to as "blockchain." However, the rules on crypto securities registers are worded in a technology-neutral manner and would also allow other types of technologies for decentralized registers. 

In essence, electronic securities under the eWpG follow a concept under which the rules of transfer and custody largely follow the rules for certificated securities. However, the process of creating electronic securities is — by nature — different, to account for the lack of a collective securities certificate. The process and concepts of the eWpG are largely based on the Federal Debt Act, which provides rules for issuing certain government debt securities in uncertificated book entry form.

Electronic securities are created whenever an issuer registers the electronic security in an electronic register (which can be a central register or a crypto securities register) in lieu of issuing physical securities certificates. Unless stated differently in the eWpG, electronic securities have the same legal effects as a paper-certificated security, and the electronic security is deemed movable property within the meaning of the German Civil Code. By this very elegant reference, crypto securities have been taken out of the nebulous nirvana surrounding the treatment of crypto assets from a private law perspective. 

By referring to the law on movable property, the eWpG creates clear rules and, particularly if the crypto securities are held in a wallet provided by a custodian, customers will have a right of separation in the insolvency of the custodian, just like in the case of securities held in central custody.

Rules on central registers and decentralized registers

Central registers for electronic securities can be kept by central securities depositories and banks authorized for custody business, but in the latter case, only with explicit authorization in writing from the issuer of the electronic securities. The registrar must notify BaFin (the German financial services regulator) of the creation of an electronic register before any register entries can be made.

In the case of crypto securities, the register of holders is held in a decentralized fashion, which includes a register on the blockchain. The eWpG provides that a crypto securities register must be managed as a tamper-proof recording system that records transfers in a sequential (i.e., time-stamped) order and must be protected against unauthorized erasure and subsequent amendment. 

The register must have a registrar appointed by the issuer and, in lack of such appointment, the issuer will be the registrar. A crypto securities registrar's activity requires a financial services license from BaFin under the Banking Act. This also applies where the issuer itself is the registrar. 

The registrar may only change the entries based on an instruction of the holder of the securities or a person being entitled to do so by law, or based on a law, a legal transaction, a court order or an enforceable administrative order. If disposal is restricted, assurance must be given of the consent of the person who the disposal restriction benefits.

To transfer title to an electronic security, the transfer must be recorded upon instruction of its beneficiary and agreement between the beneficiary and the transferee to which title will pass. The right emanating from the security will transfer when title to the security is transferred. 

It is presumed that the holder of an electronic security is also the beneficiary for the time of registration. 

Issuing and holding fund units as crypto securities

Initially, the eWpG only covered debt securities, but the act contains an option to expand its scope to fund units. With the issuance of the Crypto-Fund Units Regulation (Kryptofondsanteilsverordnung; KryptoFAV), the German legislator has used this option. Instead of certificated fund units held in the central custody system, the KryptoFAV allows not only a paperless issue of centrally custodied fund units, but also of crypto fund units registered de-centrally. The KryptoFAV entered into force in the summer of 2022.

A significant modification regarding the registrar is that invariably, the depositary appointed for the fund must be the registrar. Compared to other registrars, the depository will need no further license for this activity — this would be covered by its license as a securities custodian. The depositary will be allowed to outsource its role (in line with the outsourcing rules under applicable investment fund law).

Technical requirements for the crypto register have been detailed in a separate ordinance.

Following the creation of the fund unit in the register, a subsequent transfer can happen from wallet to wallet between investors based on a change of the entry in the register and a contractual agreement that title will pass. The register is semi-public to increase tradability, because the content of the register will give conclusive evidence of who the holder is, effectively allowing a bona fide acquisition from a nonowner.

A look into the future — crypto shares under the Future Financing Act

The German government has published a white paper that would liberalize German capital markets law to allow companies better access to capital markets. Based on this white paper, a draft of a "Future Financing Act" (Zukunftsfinanzierungsgesetz) is currently being prepared. The publication of the first draft is delayed, but one key proposal is to expand the eWpG even further and create the possibility to issue shares electronically and have them registered in a decentralized register as well.