Luxembourg Proposes Updates to Blockchain Laws

On 24 July 2024, the Ministry of Finance proposed Blockchain Bill IV, which will offer greater flexibility and legal certainty for issuers using Distributed Ledger Technology (DLT). The Bill will update three of Luxembourg’s finance laws, the Law of 6 April 2013 on dematerialized securities, the Law of 5 April 1993 on the financial sector and the Law of 23 December 1998 establishing a financial sector supervisory commission. This Bill includes the additional option of a control agent role and the inclusion of equities securities in dematerialized form.

DLT and Luxembourg

DLT is being increasingly used in the financial sector and for fund management in Luxembourg, offering numerous benefits and transforming various aspects of the industry.

Some examples include the following:

• Digital bonds: Luxembourg has seen multiple issuances of digital bonds using DLT. For example, the European Investment Bank has issued bonds that are registered, transferred, and kept using DLT processes. These bonds are governed by Luxembourg law and registered on proprietary DLT platforms.
• Fund administration: DLT can streamline fund administration processes, offering new opportunities and efficiencies for intermediaries, and can do the following:
  
  • Automate capital calls and distributions using smart contracts,
  • Simplify audits and ensure reporting accuracy through transparent and immutable transaction ledgers.
• Collateral management: Luxembourg-based DLT-operated platforms allow clients to exchange ownership of securities baskets across different collateral pools at precise moments.
• Tokenisation: DLT is being used to tokenise various assets, including real estate and luxury goods, representing them in a tokenised and fractionalised format on the blockchain. This process can enhance the liquidity and accessibility of traditionally illiquid assets.
• Investment fund tokenisation: DLT is being explored for tokenising investment funds, which can optimise the distribution chain, reduce costs, and enable quicker transactions. DLT can automate various elements of the distribution chain, decreasing the need for reconciliations among entities such as custodians, administrators, and investment managers.
• Issuance, settlement, and payment platforms: Market players are developing trusted networks using DLT to serve as a single source of shared truth among participants in financial-instrument investment ecosystems.
• Legal framework: Luxembourg has adapted its legal framework to accommodate DLT, recognising the validity and enforceability of DLT-based financial instruments. This includes the following:
  
  • Allowing the use of DLT for issuing dematerialised securities,
  • Recognising DLT for the circulation of securities,
  • Enabling financial collateral arrangements over DLT financial instruments.
• Regulatory compliance: DLT can enhance transparency in fund unit ownership and regulatory compliance, offering fund managers new opportunities for liquidity management and operational efficiency.
• Financial inclusion: By leveraging DLT, Luxembourg aims to foster greater financial inclusion and participation, potentially creating a more diverse and resilient financial system.
• Governance and ethics: DLT implementation may promote higher standards of governance and ethics, contributing to a more sustainable and responsible financial sector.

Luxembourg's approach to DLT in finance and fund management is characterised by a principle of technological neutrality, recognising that innovative processes and technologies can contribute to improving financial services. This is exemplified in its commitment to creating a compatible legal and regulatory framework.

Short History

Luxembourg previously enacted three significant blockchain-related laws, often referred to as Blockchain I, II, and III.

Blockchain I Law (2019): This law, passed on 1 March 2019, was one of the first in the EU to recognize blockchain as equal to traditional transactions. It allowed the use of DLT for account registration, transfer, and materialization of securities.

Blockchain II Law (2021): Enacted on 22 January 2021, this law enforced the Luxembourgish legal framework around dematerialized securities. It recognized the possibility of using secure electronic registration mechanisms to issue such securities and expanded access for all credit institutions and investment firms.

Blockchain III Law (2023): Also known as Bill 8055, this is the most recent blockchain-related law and was passed on 14 March 2023. This law supplemented Luxembourg’s DLT framework by doing the following:

• Updating the law of 5 August 2005 on financial collateral arrangements to allow the use of electronic DLT in collateral over financial instruments registered on securities accounts,
• Transposing EU Regulation 2022/858 on a pilot regime for market infrastructures based on DLT (the DLT Pilot Regime regulation),
• Redefining the notion of financial instruments in the Law of 5 April 1993 on the financial sector and the Law of 30 May 2018 on markets in financial instruments to align with corresponding European regulations, including MiFID.

The Blockchain III Law strengthened the rules on collateral over digital assets and aimed to enhance legal certainty by allowing securities accounts on DLT to be pledged while maintaining the efficient system of the 2005 law on financial collateral arrangements.

With Blockchain Bill IV, Luxembourg will build upon the foundation laid by the previous Blockchain Laws and aims to solidify Luxembourg’s position as a leading hub for financial innovation in Europe.

Blockchain Bill IV

Key provisions of the proposed Blockchain Bill IV include the following:

• Expanded scope: The bill broadens the Luxembourg DLT legal framework to include equity securities in addition to debt securities. This expansion will enable the fund industry and transfer agents to use DLT for managing share and unit registers, as well as processing fund units.
• New role of control agent: The bill introduces the role of a control agent as an alternative to the central account keeper for issuing dematerialized securities using DLT. This control agent can be an EU investment firm or credit institution that the issuer chooses. This new role does not replace the existing central account keeper, but, as with all other roles, must be notified to the Commission de Surveillance du Secteur Financier (CSSF), which is designated as the competent supervisory authority. Notification should be submitted two months after the start of the control agent’s activities.
• Control agent responsibilities: The control agent will maintain the securities issuance account, verify consistency between issued and registered securities on the DLT network, and supervise the securities custody chain at the account holder and investor levels.
• Simplified payment processes: The bill allows issuers to fulfill payment obligations related to securities (such as interest, dividends, or repayments) as soon as they have paid the relevant amounts to the paying agent, settlement agent, or central account keeper.
• Streamlined issuance and reconciliation: The bill simplifies the process of issuing, holding, and reconciling dematerialized securities using DLT by eliminating the need for a central account keeper to have a second custody layer and by allowing securities to be directly credited to investor accounts or their nominees.
• Smart contract integration: The new processes can be executed using smart contracts with the assistance of the control agent, potentially increasing efficiency and reducing intermediation.

These changes are expected to bring several benefits to Luxembourg’s financial sector, including the following:

• Fund operations: Enhanced efficiency and reduced costs by leveraging DLT for issuance and transfer of fund units.
• Financial transactions: Improved transparency and security.
• Transparency of the regulatory environment: Increased appeal and competitiveness of Luxembourg’s financial center by providing greater legal clarity and flexibility for issuers and investors using DLT.
• Smart Contracts: Potential for automating contractual terms, reducing intermediaries, and improving traceability of transactions through smart contracts.

Blockchain Bill IV is part of Luxembourg’s ongoing strategy to develop a strong digital ecosystem as part of its economy and keep its status as a leading financial innovation hub. Luxembourg is positioning itself at the forefront of the growing digital financial landscape in Europe by continuously upgrading its regulatory framework.

Local regulations, such as Luxembourgish law, complement European regulations by providing a more specific legal framework tailored to local specificities. These local laws, in conjunction with European initiatives, aim to enhance both the usage and security of projects involving new technologies. They help establish clear standards and promote consumer trust, while also fostering innovation and ensuring better protection against the potential risks associated with these emerging technologies. See our latest posts on these topics, and for more information on this law, blockchain technology, and the tokenization mechanism, please feel free to contact us.

We are available to discuss any projects related to digital finance, crypto, and disruptive technology.

 

This informational piece, which may be considered advertising under the ethical rules of certain jurisdictions, is provided on the understanding that it does not constitute the rendering of legal advice or other professional advice by Goodwin or its lawyers. Prior results do not guarantee a similar outcome.