When digitalised assets were first released, many saw them as an opportunity to take advantage of a lack of clear regulation in order to circumvent laws and, essentially, sell securities without adhering to regulation. This resulted in a great deal of profit for some, and a great deal of loss for others. The moral of the story seems to be that regulation serves a purpose; to prevent scammers from operating, to prevent criminals from profiting from legitimate practices, and to generally ensure that money exchanges hands in a legal and ethical manner.
Despite the many notable disasters that resulted from unregulated tokens and coins, the benefits of the underlying technology have not been forgotten and blockchain remains an emerging force that even the most cynical traditionalists can no longer ignore.
The advantages of Distributed Ledger Technology (DLT) are so profound that they outshine the financial mishaps that have scourged the cryptocurrency space, and DLT has evolved into alternative applications with more wholesome intentions.
Enter Security Tokens
Not circumventing, but embracing, existing regulation is the idea behind the security token. It is a digital asset that enjoys all the benefits of decentralisation, but is also subject to the widely accepted and established financial regulations affecting securities.
To investors, security tokens are as safe as investing in a listed stock but faster, cheaper and easier to control. To issuers, they are
cheaper to create, faster to trade and more transparent than a centralised asset.
What is a Security Token
Tokens fall under two broad categories: Utility tokens and security tokens. The distinction is predominantly down to the benefit received by the token holder. A utility token typically provides the holder with a service or access to a certain system. A security token provides the holder with a company share or a financial instrument with a financial return.
A highly quoted method of defining security is the “Howey Test” as presented by the Securities and Exchange Commission (SEC) of the United States. According to the Howey test, an investment contract is defined as “an investment of money”… “in a common enterprise”… “with an expectation of profit”.
According to this, anyone who invested in an ICO hoping that the coins would increase in value was, in fact, investing in a security. This was picked up by the SEC around 2016 when DAO raised $150M, lost $50M to hackers, and Ethereum crashed by 50%. Once the authorities could no longer ignore the ICO movement, they finally ruled that the application or automation of technology or digitalisation does not exclude financial activities from the U.S. securities laws.
Since then, a great deal of effort has been made by some organisations to avoid being defined as a security token and forced to comply with financial regulation. For many purists, this is philosophically motivated; they wish to cling to the freedom and lack of governmental control of the early Bitcoin days, a world in which it was easy enough to make money quickly and without anyone looking over your shoulder. But for others, it has become clear that regulation is designed to protect consumers not just inhibit suppliers. Many are beginning to shift towards models that embrace established financial safeguards combined with the agility of DLT.
Why Security Tokens Are Game-Changing
Unless you actively enjoy the “wild west” atmosphere of turbulent crypto fluctuations and high-risk investment, Security Tokens are a practical way of making digital assets legitimate. Imagine all the technical advantages of a crypto investment, but with integrity of a traditional financial product.
One of the most popular advantages of digitalisation is of course transaction speed. Add to this the transparency provided by imprinting on the blockchain, automated compliance, 24/7 trading and negligible transfer fees and it becomes clear why tokenisation of securities can be a real game changer.
Application to real estate
Real estate is typically affected by high transaction fees, agency fees, legal fees and taxes. Purchasing a property can take weeks if not months and the entry level to purchase a real estate unit is often in the tens or hundreds of thousands, if not millions, with a great deal of money going into the pockets of intermediaries.
By tokenising a real estate asset, one of the biggest hurdles within the real estate industry can be overcome immediately. Fractional ownership can be simplified thereby reducing the investment entry level to minute proportions of the unit purchase price. This allows investors to buy into a multimillion property with relatively tiny amounts of money, negligible associated fees and with minimal paperwork.
The second biggest problem affecting the market is regulation, which includes KYC and AML procedures. By digitalising real estate assets, one can automate the KYC process, and ensure that ownership remains only in the hands of those who have passed KYC.
Max Property Group (MPG), a real estate company which is developing property crowdfunding platform, Max Crowdfund, is applying existing regulation to its tokenised assets. By employing a system of Controlled Assets, a built-in functionality on Ardor and therefore on the Max Property Group blockchain, MPG can ensure that only approved accounts can purchase and trade in the Security Tokens issued via Max Crowdfund.
Assuming these procedures are adhered to, truly global cross-border transactions can be facilitated, and anyone from any country could invest in any property in any country; completely legally.
Why is it so darn hard
Less than 10% of European crowdfunding platforms facilitate cross-border transactions, and there’s a simple reason for that: There are no cross-border framework for securities, nor real estate transactions, which makes it extremely difficult to obtain the correct licenses and adhere to regulations in all applicable countries.
We asked Max Property Group, who are building a global real estate crowdfunding platform on the blockchain, what their biggest obstacles were. They confirmed that the biggest challenge in the space is achieving, then automating, compliance across different jurisdictions.
Each governing body has different rules that must be adhered to and these sometimes apply to the asset and at other times to the buyer, so both must be taken into account when designing a system that is legally compliant across borders. Max Property Group must apply for licences to promote securities in each country of operation, learn the country-specific financial regulations, and then program them into their platform.
Accordingly, the legal documents must be translated (taking into account jargon and terms that do not translate exactly) and perform local due diligence. This, in turn, means having a legal entity and physical specialised presence in each country of operation.
The other major obstacle, says Max Property Group, is attempting to marry two different financial worlds, in which people have extremely different business mentalities:
“Crypto investors are looking for returns of 5x or 10x their initial investment in a short period of time, whilst most traditional real estate investors are scared off by anything to do with cryptocurrencies,” says Max Property Group’s Managing Director Mark Lloyd, “We have actually set up an academy to educate people about how the two worlds can come together and demonstrate how much potential lies in this alliance.”
Why is it worth it
The potential market for security tokens is in the trillions of dollars, and the global real estate market is worth over 270 Trillion USD, so the math is relatively simple. Aside from the financial potential, applying security tokens to real estate could very feasibly create a global real estate marketplace which excludes almost no-one. Assuming people are of legal age and can prove their identity, they could buy into a property anywhere in the world, in their choice of language and currency, in a matter of minutes and with a high level of security. Blockchain could become a digital version of a global land registry, where millions of people could jointly own real estate assets across the planet.
One company to appreciate the potential of real estate tokens, is Assetum, a platform which aims to be the go-to resource for the Real Estate Security Tokens economy. Its staff review and rank all the real estate blockchain projects and provide impartial information about them. The aim of the platform is to inform investors about this rapidly growing category of coins and tokens.
Learn more on Assetum