Author: Xiao Sa Team
In 2023, with the ups and downs of the global macroeconomic situation and the gradual maturity of regulatory rules on traditional virtual assets in various countries, the cryptocurrency world is constantly innovating on the basis of the original narrative, creating products that are more attractive and meet the needs of the community and potential investors. Real World Asset Tokenization (RWA) has emerged as a new blue ocean and value capture channel in the current cryptocurrency market. The Xiao Sa team has also conducted some basic research and introduction on the concept of RWA in previous articles (see “Real World Asset Tokenization (RWA), Turning Point in Cryptocurrency Narrative in 2024?”). Interested readers and those who are new to RWA can read it.
So, is there a possibility for RWA to land in China? What specific ways can Web3 Builders and related entrepreneurs enter the RWA field in China’s legal framework, and what legal risks do they face? Today, the Xiao Sa team will have an in-depth discussion on this topic.
Analysis of the Possibility of RWA Landing in China
Let’s start with a conclusion: the Xiao Sa team believes that the token in RWA is merely a carrier of value, and the value of RWA is determined by its underlying assets. As a trusted and convenient tool for value circulation, it has great practical value in asset management, portfolio diversification, and many other aspects. Therefore, it has the possibility of landing and developing in China, but it must undergo appropriate compliance transformation. On the one hand, it is necessary to carefully select legal entities as business entities; on the other hand, cautious choices need to be made in tokenization technology and physical assets in order to adapt to China’s regulatory environment and proceed steadily.
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It needs to be clarified that RWA is a new concept, but not a new “idea”. Many years before the birth of blockchain technology, “securitization of physical assets” had already become a widely used financial instrument in the capital market. By extension, RWA or the original RWA is essentially a financial instrument developed based on blockchain technology, and the related business of RWA will inevitably have close ties with the existing financial system.
Based on the analysis of the technical characteristics and financial attributes of RWA mentioned above, the Xiao Sa team must analyze the feasibility of its landing in China from the perspectives of the regulation of blockchain and related derivative technologies, financial regulation, and criminal law on cybercrime and financial crime.
In terms of the regulation of blockchain and related derivative technologies and financial regulation, the main obstacle to the landing of RWA in China lies in the issuance and circulation of homogeneous tokens. On September 4, 2017, the People’s Bank of China, the Cyberspace Administration of China, and other seven departments jointly issued the “Announcement on Preventing the Risks of Token Issuance Financing” (referred to as the “9.4 Announcement”). The 9.4 Announcement clearly states that the so-called “virtual currency” token issuance financing activities (ICO), in which financing entities raise funds from investors (including Bitcoin, Ethereum tokens, and other virtual currencies) through the illegal issuance and circulation of tokens, are essentially “illegal public financing without approval” and may involve illegal issuance of token vouchers, illegal issuance of securities, illegal fundraising, financial fraud, pyramid schemes, and other illegal criminal activities. After the 9.4 Announcement, ICOs basically disappeared in mainland China.
Subsequently, on September 24, 2021, the People’s Bank of China and ten other ministries jointly issued the “Notice on Further Preventing and Dealing with the Risks of Virtual Currency Trading Speculation” (referred to as the “9.24 Notice”), which clearly stated the basic regulatory principle that “virtual currency does not have the same legal status as legal tender” and therefore classified all related business of virtual currency as “illegal financial activities” and banned them. Both domestic and foreign virtual asset service providers are not allowed to provide any form of virtual currency services to residents in mainland China.
However, the SAF team believes that the above regulations do not mean that the development path of RAW has been completely blocked. Based on a deep understanding of the regulatory mindset and specific rules, RWA still has the possibility of landing and developing in China.
Choose Legal Entities Carefully
Looking at the existing RWA projects, the following legal entities are mainly used for business development:
1. Special Purpose Vehicle (SPV)
SPV is not only a commonly used means of asset securitization in the real world, but also a common legal entity for operating RWA projects in the crypto world. Essentially, SPV is an independent company or entity specifically used to hold and manage specific assets. In traditional investment and financing and M&A projects, the role of SPV is usually risk isolation to protect the interests of investors and shareholders. Many people have already started to learn from this approach in overseas RWA projects.
2. Limited Liability Company (LLC)
The SAF team has also provided a detailed introduction to LLC when interpreting the DAO laws in Wyoming and Utah, USA (see DAO Regulatory Turning Point? Controversy Arises from the Enactment of Laws in Two States). Although LLC is named “Limited Liability Company,” it is completely different from the limited liability companies in China. It is a more flexible legal entity that combines characteristics of both a corporation and a partnership. Currently, LLC does not exist in Chinese law.
3. Limited Company
The SAF team believes that the traditional limited company structure can also be used for issuing RWA. With clear shareholders and management, it can more efficiently manage and distribute income from physical assets. However, due to the conflict between the decentralized concept of blockchain and the centralized management system of traditional companies, few people choose the limited company structure to carry out RWA projects.
4. Partnership
As a highly flexible legal entity, partnerships have a higher degree of human collaboration compared to corporations. In China, there are many organizations that operate under the name of DAO as partnerships, making it a more common form of RWA organization.
5. Decentralized Autonomous Organization (DAO)
It should be noted that although the concept of DAO is attractive, it is different from countries and jurisdictions like the United States, as China does not have specific legislation or relevant business practices for DAO. The development of DAO in China is actually very limited. It is either a loose community that uses the name of DAO without actual operations, or a partnership organization that deceives people. As a conceptual legal entity in the early stages of development, the SAF team believes that DAO itself is not yet capable of bearing the responsibility of RWA issuance and business development in China.
The Sa Sisters team believes that partnership structures (including general partnerships and limited partnerships) and limited liability companies have a greater possibility of landing in China among the common choices of RWA legal entities. On the one hand, these two types of legal entities have matured and have a complete set of supporting systems from establishment, regulation to bankruptcy and liquidation throughout their lifecycle. On the other hand, RWA itself is a new business, and using traditional legal entities to operate is conducive to effective communication with regulatory agencies, reducing “regulatory accidents” caused by misunderstandings and lack of trust between the two parties.
How should RWA choose physical assets in China? How to tokenize them?
Undoubtedly, if RWA wants to develop in China, it must comply with Chinese laws. Therefore, caution must be exercised in the selection of physical assets and tokenization paths to avoid crossing the line.
1. Selection of physical assets
In theory, all physical assets, even rights, financial products, etc., can be subject to RWA. RWA itself can even be nested within another RWA, as long as there is enough courage and creativity, RWA can realize all our imaginations about value circulation. Overseas RWA projects have expanded the scope of assets from traditional physical assets such as gold, real estate, and luxury cars to special “things” with value such as bonds, private equity funds, and intellectual property.
However, the national conditions in China are different from those overseas. In order to prevent unnecessary legal risks, the Sa Sisters team believes that Chinese RWAs should try to avoid special assets that may affect China’s financial security.
First, it is necessary to avoid high-value properties such as real estate, vehicles, ships, and precious metals. On the one hand, Chinese laws have special regulations on the circulation of such assets. The ideas of RWA may not be realized, and it may also lead to many contractual and infringement disputes due to RWA. On the other hand, large-scale properties such as real estate are related to people’s livelihoods. If mismanaged, there is a high possibility of causing systemic financial risks that affect social stability, which may violate criminal law.
Second, financial products such as private equity funds and stocks and securities should be avoided from being subject to RWA. China has always implemented high-intensity and penetrative regulation in the financial field. RWA itself, as a blockchain and financial derivative product, should not demonstrate strong financial attributes in the early stages of development.
The Sa Sisters team believes that in the early stages of RWA development in China, it can consider starting from low-value items such as ordinary artworks (referring to NFTs) and ordinary commodities (such as luxury goods and daily necessities), and try to develop from the perspective of cultural development and asset management to maximize the avoidance of legal risks.
2. Tokenization selection
As mentioned earlier, after the 9.4 announcement and the 9.24 notice, China has completely banned ICOs and related financial activities of virtual currencies. However, this does not mean that the path of RWA development in China has been completely blocked. It is clear that there are currently no regulations or normative documents in China that prohibit the issuance and trading of NFTs, and it is possible to conduct RWA in the form of NFTs. Of course, the Sa Sisters team reminds that conducting RWA in the form of NFTs must also be separated from related speculation and financialization operations, otherwise it is likely to be hit by regulatory agencies as “disguised token issuance”.
Final Thoughts
Looking at the development of RWA overseas, most of it is linked to financial products. The development of RWA in China must take a different path from overseas and give RWA corresponding value (which can be cultural value or utility value). In conclusion, RWA is a challenging entrepreneurial journey with obstacles. Only those who can correctly grasp the regulatory rules and regulatory mindset can successfully implement it in China.
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