Labuan: Agile And Innovative

The tsunamic insurgence of digitalisation has indeed reconstructed the architecture of many economies. Southeast Asia (SEA) has been a key benefactor to such insurgence, especially during the COVID-19 global pandemic. The concept of a digital economy, which in the past seemed a far reach, has now been weaved into the fabric of many national agendas. The utilisation of technology to reach the underserved segments of community has never been so encouraged. Perhaps it is true that innovation is the only way to thrive.

With a population of close to 700 million, SEA is indeed an attractive market. Whilst the headcount seems promising, the certainty and assurance of a scalable roll out often premises on the maturity of the regulatory landscape of a particular jurisdiction. Perhaps by drawing a loose comparison to the European Union, the sovereignty of multiple jurisdictions often results in an imbalanced growth trajectory as product offerings will each require some additional curation to meet local regulations. That said, where financial offerings are concerned, good governance, regulatory regimes and policy adoption remain the building blocks in providing assurance and confidence to consumers.

On that note, the Labuan International Business Financial Centre (Labuan IBFC) in its recent strategic roadmap has aimed to become a renowned and modern international centre which would host digital financial innovations and become fit for digital businesses to serve Asia’s exponentially expanding FinTech needs. The Labuan Financial Services Authority (LFSA), being its sole regulator, has  been introducing policies and frameworks that have facilitated various digital financial related businesses.

To date there are about 57 digital financial service providers licensed by the LFSA, consisting of digital-banks, insurtech businesses, digital intermediaries such as Robo-advisors, digital asset exchanges, crypto trading platforms, blockchain tokens as well as e-payment systems (DFS). All DFS providers are required to establish an entity in Labuan and obtain the relevant licence specific to their product offering. Conscious that most if not all digital offerings do not require physical touch points or face to face contact, the LFSA places much emphasis on compliance with AML/CFT and market conduct requirements. It remains a primary objective of the LFSA that all DFS providers are not used to front money laundering or terrorism financing activities. As such, the adoption of technologies that embrace transparency especially while dealing with clients is warmly welcomed.

In its recent launch of the Strategic Roadmap for Labuan IBFC, three verticals have been charted as strategic initiatives.  The first vertical focuses on efforts to promote greater market development and business expansion for Labuan IBFC. The second vertical is to strengthen Labuan IBFC as a well-regulated and internationally-compliant jurisdiction against prevailing regulatory and tax standards. The third vertical focuses internally within LFSA to ensure that it continues to grow its internal capabilities as an adaptive and agile organisation that matches the evolving market changes and expectations.[i]

At present the regulatory frameworks which cater to the digital sector, inter alia, include:

a) Labuan Digital Banking (DB) Framework

The DB framework allows corporations that have strong financial resources and a credible and viable business plan which intends to incorporate innovative uses of technology for its operations, the ability to conduct digital financial services, e-commerce and technologically-driven business within the region.[ii] Amongst other requirements, the DB framework imposes that a Labuan digital bank must always maintain a minimum capital requirement of RM200 million (unimpaired by losses) and place RM5 million[iii] (a non-interest bearing security deposit) with Labuan FSA.

On the technology front, a Labuan digital bank is required to have an in-house core banking system that processes and records daily banking transactions which may include but are not limited to: systems relating to digital corporate banking, customer onboarding, digital trade, watch banking/wearable tech, financial chatbot and mobile wallets. Requirements such as internal control policies, AML/CFT compliances, market conduct principles and an Exit Plan are equally required by the LFSA.

b) Exchanges, Money Broking and Credit Token Framework

Labuan Exchanges can be established for listing and trading of financial instruments such as equities, investment funds and debt instruments. In embracing the digital economy, Labuan Exchanges are further permitted to include the listing of digital securities and trading of security tokens and cryptocurrencies.  It remains imperative that adequate and robust IT systems that address risk management and the protection of the client’s assets and a resilient cyber security system must be put in place. Additionally, efficient controls that aim to prevent money laundering and financial crime and data protection must be equally adopted.

The money broking business[iv] is defined as the business of arranging transactions between buyers and sellers in the money or foreign exchange markets as an intermediary in consideration for brokerage fees paid or to be paid. This does not include the buying or selling of Ringgit or foreign currencies as a principal in such market. This licensing framework extends to include cryptocurrency brokers however it should be noted that the money broking licensee is intended to serve institutional investors and high-net worth individuals only.

A licensed money broker by the LFSA is required to, amongst others, maintain a paid-up capital unimpaired by losses of at least RM500,000 and establish a local entity in Labuan.

In the same vein, where parties wish to embark on a digital token issuance journey, such parties may explore obtaining a credit token licence from the LFSA. The LFSA[v] defines a credit token business as any business where a token, being a cheque, card, voucher, stamp, booklet, coupon, form or other document or thing is given or issued to a person (referred to as "customer") by the person carrying on the business (referred to as "issuer"), whereby such issuer undertakes that:

1. On the production of the token, whether or not some other action is also required, the issuer will supply cash, goods or services on credit; or
2. Where, on the production of the token to a third party, whether or not any other action is also required, the third party supplies cash, goods or services, the issuer will pay the third party for them, whether or not deducting any discount or commission, in return for payment to be made thereafter to the issuer by the customer.

c) Digital Governance Guidelines[vi]

Whilst it remains the objective of LFSA and Labuan IBFC to embrace digitalisation of traditional financial services, cyber risk presents a growing challenge for financial institutions. Financial institutions are now pervious to data and identity theft, extortion or other unlawful activities. As such, there is a need for financial institutions to strengthen their cyber resilience against operational disruptions to ensure continuity in servicing their clients and to maintain market confidence.

The Guidelines outline the regulatory requirements on digital governance to be observed by all Labuan financial institutions in key areas such as digital governance oversight, cyber risk management, management of digital services, outsourcing, maintenance and review and awareness and training. The Guidelines came into effect on 1 January 2022 and set out the minimum requirements applicable to all Labuan financial institutions which include all DFS providers.

It remains clear that Labuan IBFC as well as the LFSA have over the years been progressively embarking on expanding traditional licensing regimes to be inclusive of digital offerings. With the agility of the LFSA in embracing innovation and the maturity of its legislative frameworks, perhaps it is most strategic to consider Labuan as the springboard for SEA when one embarks on a digital offering journey. On the same note, Labuan has indeed evolved as the ideal platform for convergence, where traditional offerings can now be digitised and offered within a regulated arena so as to provide creditability to DFS providers within the region.

If you have any questions or require any additional information, you may contact Jonathan Lim or the Zaid Ibrahim & Co partner you usually deal with.

The views expressed here are the writers’ own. This article is for general information only and is not a substitute for legal advice.

Footnotes:

[i] https://www.labuanibfc.com/clients/asset_52E835CC-1342-4701-B6FA-E2CD03AD74B4/contentms/img/publications/brochures/Labuan-IBFC-Strategic-Roadmap-22-26_16062022.pdf

[ii] https://www.labuanfsa.gov.my/clients/asset_120A5FB8-61B6-45E8-93F0-3F79F86455C8/contentms/img/documents/Legislation_and_Guidelines/Guidelines/banking/2020/Labuan%20Digital%20Banking%20Framework.pdf

[iii] The RM 5 Million is refundable after 3 years.

[iv] https://www.labuanfsa.gov.my/clients/asset_120A5FB8-61B6-45E8-93F0-3F79F86455C8/contentms/img/documents/Legislation_and_Guidelines/Guidelines/Other_businesses/Guidelines%20on%20Money%20Broking%20Business%20in%20Labuan%20IBFC%20(FINAL).pdf

[v] https://www.labuanibfc.com/sectors-offerings/credit-token-business

[vi] https://www.labuanfsa.gov.my/clients/asset_120A5FB8-61B6-45E8-93F0-3F79F86455C8/contentms/img/documents/Legislation_and_Guidelines/Guidelines/Capital_market/2021/Guidelines%20on%20Digital%20Governance%20Framework_15092021.pdf

Jonathan Lim
Jonathan Lim is a corporate partner in the Telco Multimedia and Technology practice group of Zaid Ibrahim & Co (a member of ZICO Law), and helms the FinTech portfolio of the firm. He is also serving as the Secretary for the FinTech Association of Malaysia for the term 2021/2022.