Fintech Regulatory Developments: 2021 Year in Review

As anticipated in our 2020 year in review, there were significant and notable developments in the Canadian Fintech industry in 2021.

The following is a summary of some of the key Fintech developments in 2021, as well as some regulatory developments on which to keep a watchful eye in 2022.

WHAT WE SAW IN 2021

  1. PAYMENTS DEVELOPMENTS
  • The Retail Payment Activities Act (“RPAA”) was introduced and enacted in 2021. This legislation, once in effect, will require payment service providers operating in Canada to register with the Bank of Canada and meet certain operational requirements, including requirements in respect of safeguarding end-user funds, mitigating operational risk and reporting requirements. The relevant regulations and guidance have not yet been issued, however, the Bank of Canada has released minutes of meetings of the Retail Payment Advisory Committee and some discussion guides from such meetings.
  • The Federal Advisory Committee on Open Banking also released its final report in August 2021. The report recommended that the federal government implement an open banking system by 2023, based on a hybrid “made-in-Canada” collaborative approach between industry and policy makers. The report suggests the appointment of an open banking lead in the early phase, to be replaced by an entity to administer the open banking system during the second phase. In addition, the report recommended an accreditation system. On the question of liability, the report recommended that liability should flow with the data and lie with the party at fault.
  • Payments Canada launched Lynx, its high-value payment system replacing the Large Value Transfer System (“LVTS”), in September 2021. Lynx will support data-rich payments through ISO 20022 messages. Payments Canada also released a consultation paper on the Pre-Authorized Debits (PAD) Rule, seeking to modernize it.
  1. ANTI-MONEY LAUNDERING REGULATORY DEVELOPMENTS
  • On June 1, 2021, a series of regulatory amendments made to the Proceeds of Crime (Money Laundering) and Terrorist Financing Act(the “PCMLTFA”) and related regulations over the past few years came into force, together with changes to guidance issued by the Financial Transactions and Reports Analysis Centre of Canada (“FINTRAC”). New obligations came into effect with respect to prepaid payment products and virtual currency transactions, while designated non-financial businesses and professions (“DNFBPs”) now have obligations with respect to politically exposed persons and heads of international organizations (“PEP/HIO”) and beneficial ownership.
  • The FINTRAC guidance now provides for a new reliance method and a simplified identification method as a way to identify a person or entity. FINTRAC also issued new guidance on the 24-hour rule and the travel rule, while updating existing guidance on business relationships, ongoing monitoring, third party determination, terrorist property reporting and correspondent banking relationships.
  • FINTRAC also issued a notice stating that it will exercise flexibility and reasonability when assessing reporting entities’ compliance with the new requirements. From June 1, 2021 to March 31, 2022, FINTRAC will assess compliance with the regulatory requirements in effect prior to June 1, 2021. FINTRAC will begin assessing compliance with the amended requirements on April 1, 2022, taking a reasonable and flexible approach, as communicated in the Notice on forthcoming regulatory amendments and flexibility.
  • In 2021 FINTRAC began taking full responsibility for compliance examinations of federally regulated financial institutions that were formerly undertaken by OSFI.
  • On the global front, the Financial Action Task Force (“FATF”) issued key guidance on virtual assets, outlining its view on the application of the FATF recommendations to virtual assets, including providing further clarification on the definitions of “virtual assets” and “virtual asset service providers” and addressing current developments such as stablecoins, non-fungible tokens (“NFTs”), initial coin offerings (“ICOs”), decentralized finance (“DeFi”) and decentralized applications (“DApps”).
  1. CRYPTOCURRENCY AND DIGITAL ASSET REGULATORY DEVELOPMENTS
  • Securities Developments
    • In March 2021, the Canadian Securities Administrators (“CSA”), along with the Investment Industry Regulatory Organization of Canada (“IIROC”), published CSA Staff Notice 21-327: Guidance on the Application of Securities Legislation to Entities Facilitating the Trading of Crypto Assets (see our insights into Staff Notice 21-329 here) clarifying their views that entities facilitating the trading of crypto assets may be subject to securities legislation: (1) when the crypto asset is a security or a derivative, or (2) when the crypto contract or instrument does not result in an obligation to make immediate delivery of the crypto asset or is not settled by the immediate delivery of the crypto asset (a “crypto contract”). As a result, we expect to see regulatory scrutiny increase in Canada as compliant players take additional steps to become or stay in compliance while non-compliant players will have to enter into discussions with regulators, review their business models or exit the Canadian market altogether. Entities facilitating the trading of crypto assets, whether as dealers or as marketplaces, may be considered crypto-trading platforms (“CTPs”). As such, they should obtain legal advice on their business model and consider engaging with regulators.
    • A number of entities facilitating the trading of crypto assets obtained temporary discretionary exemptions to continue to operate under certain specific conditions while working toward their full investment dealers registrations with the appropriate members of the CSA and their dealer member registrations with IIROC.
    • In addition, CSA and IIROC published Staff Notice 21-330 Guidance for Crypto-Trading Platforms: Requirements relating to Advertising, Marketing and Social Media Use (see our insights into Staff Notice 21-330 here) to provide guidance to CTPs regarding statements in advertising and marketing materials that could be considered false or misleading, concerns over the use of gambling-style contests, promotions or schemes, compliance and supervisory challenges when using social media to promote CTPs, and compliance with securities legislation generally.
  • Regulation of Crypto Contracts as a Regulatory Priority
    • The Ontario Securities Commission (“OSC”) in its 2021 / 2022 Statement of Priorities specifically includes “work with the CSA and IIROC, to strengthen oversight of crypto asset trading platforms to bring crypto firms engaging in dealer or marketplace activities into compliance with securities laws”.
    • IIROC in its 2022 Statement of Priorities also specifically intends to “continue to work with the CSA in ensuring that [crypto asset trading platforms] subject to [securities law] requirements are fully integrated in the Canadian regulatory system”.
  • Enforcement Actions Against Foreign Platforms

In 2021, the OSC took enforcement action against four unregistered foreign crypto contract platforms in a period of less than 6 months. In doing so, the OSC noted that “Staff will continue to take action against non-compliant crypto asset trading platforms and are in contact with international securities regulators to exchange information to support enforcement action”. It also referred to working in collaboration with the local regulators of the foreign crypto contract platforms.

  • During the first quarter of 2021, Canada was the first jurisdiction to authorize bitcoin exchange-traded funds (“ETFs”), through which retail investors can gain access to cryptocurrencies (originally only bitcoin, now also ether). ETFs, and other investment funds, are heavily regulated so that parties involved have to meet stringent requirements and cannot be “unregulated”. For example, all portfolio assets of a Canadian investment fund must be held by a custodian that satisfies certain regulatory requirements, including $10,000,000 equity for a Canadian custodian or $100,000,000 equity for a foreign custodian. As of today, only foreign custodians act as custodians for Canadian investment funds, although on November 16, 2021, a Canadian dealer obtained exemptive relief pursuant to which it is permitted, through its U.S. affiliate, to offer custody services of crypto assets to permitted clients, including Canadian investment funds and other institutional investors.
  • Office of the Superintendent of Financial Institutions (“OSFI”) Developments
    • The Basel Committee on Banking Supervision (the “Basel Committee”) released a public consultation paper on a proposed a framework for the prudential treatment of crypto assets and requested feedback (see our insights into this report here). The Basel Committee proposes that crypto assets be classified into two groups. Group 1 crypto assets must meet a series of conditions intended to identify “stablecoins” and tokenised traditional crypto assets, while Group 2 is a residual category that captures all crypto assets not included in Group 1 (including bitcoin). Assets in Group 1 would be subject to less conservative minimum risk-based capital requirements than Group 2 assets (which would be subject to a 1250% risk weighting). The report also provided guidance for banks and supervisors on mitigating crypto asset-specific risks.
    • OSFI issued a letter highlighting the Basel Committee’s report to Canadian federally regulated financial institutions, requesting feedback on how to best to structure the federal prudential regulatory framework and supervisory approaches for crypto assets (see our insights into this letter here).
  1. LENDING REGULATION
  • On January 29, 2021, the Ontario Government released a consultation paper on the regulation of high-cost credit agreements and alternative financial services (“AFS”). Common AFS include payday loans, instalment loans, lines of credit and auto title loans. The consultation paper discussed various proposals and options to improve the regulation of other AFS and high-cost credit agreements. In particular, the consultation paper proposed defining a “high-cost credit agreement” to have an annual percentage rate which exceeds the Bank of Canada rate by 25% or more. Businesses offering these types of agreements would be subject to licensing requirements, specific disclosure requirements, a cooling-off period of at least two business days, and limits on costs, fees and charges, similar to those of other provinces such as British Columbia, Alberta, Manitoba and Quebec.
  • The Ontario Government’s consultation paper sought feedback specifically on buy now pay later (“BNPL”) loans, which have expanded rapidly over the past few years. The Financial Consumer Agency of Canada (“FCAC”) also indicated in a recent study that there are potential risks to BNPL services and that it will continue to monitor the BNPL market in Canada and internationally through engagement with its international counterparts.
  • The Department of Finance Canada launched consultations earlier this year on reducing credit card transaction fees, with the aim of lowering the average cost of doing business for small and medium-sized businesses. As indicated in the federal government’s 2021 budget, the government is working with key stakeholders to lower the average overall cost of interchange fees for merchants through possible legislative amendments to the Payment Card Networks Act.
  • The federal government also proposed to launch a consultation on lowering the criminal rate of interest set out in the Criminal Code applicable to, among others, installment loans offered by payday lenders.
  1. INSURTECH
  • In 2020, the Financial Services Regulatory Authority of Ontario (“FSRA”), the regulator of insurance companies, credit unions, caisse populaires and loan and trust companies in the province of Ontario, established an Innovation Office to facilitate financial services innovation, a core part of FSRA’s mandate.
  • On October 21, 2021, FSRA released its first consultation document which discusses the Innovation Office, the innovation process, “test and learn” environments, and industry engagement and outreach. While the framework of the Innovation Office produced following FSRA’s consultation (the “Ontario Innovation Framework”) will apply to all areas of financial services regulated by FSRA, the automobile insurance sector will be the first to use the new test and learn environments. FSRA may potentially use its new powers under section 15.1 of the Insurance Act (Ontario) effective January 1, 2022 to grant exemptive relief from provisions of the Insurance Act and regulations on the application of a person or entity where in FSRA’s CEO’s opinion it would not be prejudicial to the public interest.
  1. PRIVACY REFORM AND TECHNOLOGY REGULATION
  • There were numerous privacy law reform efforts that were active in 2021. Most significantly, Quebec’s privacy reform bill (Bill 64) became law in September 2021 which makes substantial changes to that law (see our insights into this new law here). While the federal government’s bill for the new “Consumer Privacy Protection Act” died when the fall election was called, there have been indications that a replacement bill will be introduced. Other provinces (including Alberta, British Columbia and Ontario) also made steps towards privacy law reform.
  • These reforms are increasingly moving to regulate areas that were not previously covered by existing (more traditional) privacy laws. For example, Quebec’s amended privacy law puts in place a framework that governs how AI tools that make decisions about individuals may be used (including notification, transparency and explainability requirements).
  • OSFI released updated requirements governing how federally regulated financial institutions must disclose and report technology and cyber security incidents to OSFI (see our insights into this advisory here), and also launched a three month public consultation on a draft guideline regarding technology and cyber risk management. These are material developments and will have significant impacts on federally regulated financial institutions, as well as any company that provides technology products or services to them.

WHAT TO WATCH FOR IN 2022

  • As we described, Prime Minister Trudeau’s mandate letter for the Minister of Finance identified a number of relevant areas for the Minister of Finance to focus on in her mandate, including lowering the criminal rate of interest (which could affect lenders) and engaging with stakeholders to lower the overall cost of interchange fees. As noted above, these were also referenced in the 2021 budget bill.
  • We would expect the federal open banking lead to be appointed in 2022, as well as further progress generally on the implementation of an open banking system.
  • We would expect further developments and engagement in respect of retail payments supervision in 2022, including potentially the issuance of regulations to the RPAA and guidance, which have not yet been issued.
  • Canada’s real-time payments system, Real-Time Rail (“RTR”), is expected to launch in 2022. Operated by Payments Canada, the RTR will allow Canadians to initiate payments and receive funds in seconds, 24/7. Interac Corp. has been selected as the exchange solution provider for the RTR.
  • A key priority for FINTRAC in 2022 will be to continue with the implementation of the regulatory amendments which came into force on June 1, 2021. FINTRAC has stated it will begin assessing compliance with the June 2021 regulatory amendments on April 1, 2022. FINTRAC will also work with the Department of Finance Canada and other stakeholders to advance new policy initiatives described in recent government announcements, such as the proposal to amend the PCMLTFA to enable FINTRAC to recover its compliance costs.
  • Stablecoins, DeFi, NFTs and Central Bank Digital Currencies (“CBDCs”) will continue to be areas of focus for regulators, including securities regulators, AML regulators and prudential regulators.
  • Crypto platforms operating pursuant to discretionary exemptions are expected to work toward full registration as investment dealers with appropriate members of the CSA and as dealer members with IIROC, while the regulation of crypto contracts and enforcement efforts remain a priority for securities regulators.
  • We can expect the rise of investments in crypto currencies by institutional investors to lead to an increase in numbers and size of regulated players in the crypto space, including Canadian qualified custodians.
  • Further to the Basel Committee and OSFI’s efforts to establish a prudential regulation framework for crypto assets, we can expect such a framework to be established in the mid-term.
  • In 2020, the province of British Columbia enacted amendments to its Financial Institutions Act. Among other things, these amendments permit the British Columbia Financial Services Authority to make rules in respect of insurance distributed through “electronic agents”. No rules have yet been released for consultation by the public. We are watching closely to see how the initial draft of these rules compares with the rules and procedures in Québec, which has a specific regulation in respect of online distribution of insurance products, along with other provinces updating their regulation in a similar fashion.
  • In response to comments received to its Consultation Document, FSRA is likely to release its Ontario Innovation Framework.
  • OSFI indicated that Guideline B-10 is in the process of being updated and its scope will be expanded to capture other third-party provider arrangements beyond outsourcing. This will likely have material impacts on companies providing technology (including cloud-based services) to financially regulated financial institutions.
  • Privacy law reform activities are expected to continue throughout 2022, including in Alberta, British Columbia and Ontario and at the federal level. Further the three-year implementation of the provisions of Quebec’s privacy law update will continue, as companies begin to implement compliance programs in earnest.