Development of South Korean Blockchain Market During Past 12 Months

Following the Financial Services Commission (FSC)’s announcement in 2023 of a plan to incorporate security tokens into the regulatory framework, expectations for the legalisation of security tokens in South Korea have heightened. In the current situation, where legalisation has not yet occurred, the service providers have to operate their security token businesses under the regulatory sandbox programme. As of now, the FSC accepted applications from five companies for regulatory sandbox exemption and granted exemptions from regulations under the Financial Investment Services and Capital Markets Act (FISCMA) and Personal Information Protection Act (PIPA), mostly in connection with the issuing and trading of tokenised real estate trust beneficiary securities.

The Virtual Asset User Protection Act (VAUPA) was enacted on 18 July 2023 to promote protection of virtual asset users and prevent unfair trading practices, and it will come into effect on 19 July 2024. The VAUPA aims to regulate Virtual Asset Service Providers (VASPs) to segregate user deposits and VASPs’ proprietary assets in order to manage them separately. Also, the VAUPA imposes certain obligations on VASPs to subscribe to insurances (eg, fraternal insurances) or set up reserve funds in preparation for any detrimental incidents, such as hackings.

The VAUPA classifies the following acts as unfair trading practice and imposes criminal penalties, fines, and sanction for violations thereof:

• the use of non-public material information;
• market manipulation;
• fraudulent and unfair trading practices; and
• trading in self-issued coins.

Furthermore, VASPs that are involved in operating virtual asset markets are required to report any suspicious trading activities and take appropriate measures in response.

The Bank of Korea (BOK) and regulatory authorities have jointly announced that they have prepared detailed plans for the “Central Bank Digital Currency (CBDC) Usability Test”. According to these plans, the test will be divided into two main parts ‒ namely, “real transaction testing” and “technical experiments in a virtual environment”. Banks participating in the real transaction test will be allowed to issue deposit tokens through the financial regulatory sandbox. They will also be responsible for recruiting and managing participants (such as individuals and shops), developing user wallets, and facilitating payment of usage fees. The real transaction test is scheduled to be conducted in the second half of 2024.

Outlook for Next 12 Months

In July 2023, an amendment bill for the FISCMA and an amendment bill for the Act on Electronic Registration of Stocks and Bonds (AERSB) were introduced to permit security token issuance and distribution to a certain extent. The government intended to finalise the amendments to the relevant legislations during 2023 to allow a one-year preparation period before permitting security tokens by the end of 2024, but the amendment bills were not passed. As the newly elected 22nd National Assembly is scheduled to convene in June 2024 following the general election in April 2024, it is expected that the above-mentioned amended bills will be put on agenda in the National Assembly and their progress should be closely monitored.

After Bitcoin spot exchange-traded funds (ETFs) were approved in the USA, the FSC has taken the stance that it will neither allow South Korean asset management companies to set up Bitcoin spot ETFs nor permit South Koreans to invest in such ETFs listed in the USA. In response to the growing number of voices advocating for the approval of Bitcoin spot ETFs in South Korea, the opposition party recently announced plans to request that the FSC reconsider its statutory interpretation regarding Bitcoin spot ETFs. It remains to be seen whether the government’s stance on Bitcoin spot ETFs will change soon.

Until now, virtual asset exchanges have restricted or prohibited transactions for corporate clients ‒ particularly with regard to the trading of digital assets and fiat currency – without any specific legal or regulatory justification. These actions were taken in response to the stringent stance of regulatory authorities toward digital assets. There has been growing and persistent opposition to these measures, prompting the need to monitor whether regulatory authorities will reconsider their stance. The opposition party announced their commitment in the general election to permit corporates to open customer accounts with South Korean exchanges.

Under the amended Income Tax Act, which comes into effect from January 2025, income earned by individuals by transferring or lending digital assets will be subject to income tax. For further discussion, please see 6.1 Tax Regime.

As the financial regulatory authorities have taken a conservative stance on financial products involving virtual assets, the predominant actual use of digital assets in the financial sector is currently concentrated within virtual asset exchanges, which are regulated and permitted by the Act on Reporting and Using Specified Financial Transaction Information (the “AML Act”). Decentralised finance (“DeFi”) platforms that engage in activities such as staking, deposits, and loans are also operational. Regulatory discussions regarding these activities have not yet taken place.

In the market, there is a significant interest in the issuance and circulation of security tokens, which tokenise various forms of investment contract security and trust beneficiary certificates. However, the FSC currently takes a negative stance on tokenising other types of securities such as stocks or corporate bonds that already have existing trading markets. On the other hand, regulatory authorities have indeed relaxed some regulations for tokens issued with tangible assets such as real estate or gold as underlying assets through the financial regulatory sandbox programme. However, considering the low approval rate for exemptions granted through financial regulatory sandboxes and the stringent stance of regulatory authorities towards virtual assets, it is realistic to conclude that there are currently no proofs of concept that can be definitively said to be permitted.

The Game Rating and Administration Committee does not permit Play-to-Earn (P2E) games, owing to potential violations of prize-giving prohibition or restrictions on exchanges of prizes, etc, under the Game Industry Promotion Act. Therefore, for example, business models that allow in-game rewards such as game items to be exchanged for digital assets listed on virtual asset exchanges will generally be prohibited.

Blockchain technology is also being utilised in various other industries. By way of example, the government utilises blockchain technology in areas such as identification verification (eg, driver’s licences) and vaccination certification for COVID-19. Blockchain’s characteristic resistance to alteration can be leveraged to ensure security and authenticity in these applications.

There is no law or regulation in South Korea that provides for the effectiveness of the issuance of, registration of, transfer of, or creation of a pledge on digital assets including security tokens with an irrevocable effect (ie, finality) that are registered on a blockchain-based distributed ledger.

However, there is a legislative proposal containing relevant regulations on this issue ‒ although it has not yet been enacted into law. The proposed amendment to the AERSB includes recognising distributed ledger-registered securities as a type of electronically registered security. The proposed amendment does not distinguish the validity and effectiveness of registration on a distributed ledger from that of the existing conventional electronic registration framework. Therefore, if the proposed amendment passes, the provisions relating to the validity and effectiveness of the existing conventional electronic registration and effective transfer of electronically registered securities, etc, under the current AERSB will apply to distributed ledger-registered securities, as follows.

• For the electronic securities held by an account management institution, the securities shall be registered in the “proprietary account book” of the account management institution managed by an electronic registry. For the electronic securities held by ordinary customers, the securities shall be registered in the “customer account” book managed by the account management institution (customer account book and proprietary account book, together the “electronic register”). Any person registered in the electronic register may rely on the presumption that such person has lawfully acquired the legal rights to the relevant electronically registered securities.
• In the case of transferring electronic securities, the effectiveness of the transfer occurs at the time when the transferor’s account is debited and the transferee’s account is credited in the electronic register.
• The creation of a pledge on electronic securities shall take effect after the registration in the electronic register of the fact that the electronic securities are subject to the pledge and the relevant pledgee’s details.
• As regards securities that are electronically registered as a trust property, the relevant trustee may rely on the effectiveness of the registration to defend against any third-party claims towards the registered securities.

Currently, there is no law or regulation ‒ nor any official method ‒ in South Korea to legally categorise the types of digital assets. However, the existing relevant laws and regulations can be applied to certain digital assets depending on their legal nature. Thus, in practice, digital assets are classified based on the applicable laws.

The FISCMA applies to “financial investment instrument” products. Financial investment instrument essentially means a right acquired by an agreement to pay money or anything else with property value (hereinafter referred to as “money, etc”) at a specific point in the present or the future ‒ with the intent to earn a profit or avoid a loss ‒ where there is a risk that the total amount of such money, etc, paid (or payable) to acquire that right (excluding sums such as sales commissions) may exceed the total amount of money, etc, already recovered or recoverable from such right (including sums such as termination fees). Thus, digital assets that are subject to the FISCMA will be categorised as a “security token”.

Virtual asset exchanges in South Korea sometimes request that applicants for virtual asset listing submit a legal opinion stating that the subject digital asset does not fall within security.

Under the Electronic Financial Transactions Act (EFTA), electronic payment means refer to electronic funds transfers, electronic debit payment means, electronic prepayment means, electronic currency, credit cards, electronic bonds, or other means of payment by electronic means. Thus, digital assets that are subject to EFTA will be categorised as a “payment token” as at a practical level. It is often considered whether a digital asset qualifies as electronic prepayment means or electronic currency.

The term “electronic prepayment means” means any certificate (or information on such certificate) issued with transferable monetary values stored by electronic means that meets all of the following requirements (excluding any electronic currency). (Please note that the definition of electronic prepayment means has been amended and will take effect from 15 September 2024.)

• It shall be used to purchase goods or services from a third person other than the issuer (including specially related persons prescribed by Presidential Decree) and pay the prices.
• It shall be able to purchase goods or services in at least two business categories (referring to mid-size business categories in the Korean Standard Industrial Classification).

The term “electronic currency” means any certificate, or information on such certificate, issued with transferable monetary values stored by electronic means that meets all of the following requirements:

• it shall be used in the areas and franchise stores that meet the standards prescribed by Presidential Decree;
• it shall be used to purchase goods or services from a third person other than the issuer (including specially related persons prescribed by Presidential Decree) and pay the prices;
• it shall be able to purchase goods or services in at least five business categories (referring to mid-size business categories in the Korean Standard Industrial Classification) and the number of such business categories shall be at least that prescribed by Presidential Decree;
• it shall be issued in exchange for the same value of cash or deposits; and
• it shall be exchangeable for cash or deposits under the guarantee of the issuer.

Under the AML Act, there is just a general definition of “virtual assets”. Virtual assets are defined as electronic representations (including all rights thereto) that have economic value and that can be traded or transferred electronically, except for the following:

• electronic representation or information about such representation that cannot be exchanged for money, goods, or services, etc, and the purpose and use of which is restricted by the issuer;
• tangible and intangible products obtained through the use of game products under Article 32 (1) 7 of the Game Industry Promotion Act;
• electronic prepayment means under subparagraph 14 of Article 2 of the EFTA, as well as electronic currency under subparagraph 15 of the same Article;
• electronically registered stocks under subparagraph 4 of Article 2 of the AERSB;
• electronic bills under subparagraph 2 of Article 2 of the Issuance and Distribution of Electronic Bills Act; and
• electronic bills of lading under Article 862 of the Commercial Act

The VAUPA has adopted the same definition of “virtual asset” as the foregoing. The draft enforcement decree of the VAUPA further excludes non-fungible tokens (NFTs) ‒ which are electronic tokens that exist uniquely and cannot be mutually replaced, primarily available for collection purposes or for confirming transactions between parties – from the scope of “virtual asset” unless notified otherwise by the FSC. Hence, digital assets falling under this category are generally to be considered “utility tokens”.

Please note that there are no laws or regulations applicable to digital assets categorised as stablecoins. However, based on the legal nature of the stablecoin, it may be subject to the FISCMA or the EFTA.

In South Korea, there are no specific laws that allow tokenised securities or that provide for traditional securities to be issued in the form of tokens. Thus, no traditional securities have been issued in the form of tokens.

However, under the Special Act on Support for Financial Innovation (SASFI), if tokenised securities meet several requirements, their issuance and trading are allowed under the regulatory sandbox programme.

The FSC accepted applications from five companies for the regulatory sandbox programme and granted exemptions from regulations under the FISCMA and the PIPA, specifically in connection with the issuing and trading of tokenised real estate trust beneficiary securities. These companies applied for an exemption from the FISCMA regulations that apply to investment brokerage for securities and the opening of securities exchanges in order to operate trading platform services for tokens issued based on real estate trust beneficiary securities. The FSC approved the applications and it can be inferred from these cases that for Security Token Offerings (STOs) – such as tokens issued for real estate trust beneficiary securities – restrictions under the FISCMA apply, unless otherwise approved for a regulatory sandbox by the authorities.

Around April 2022, the FSC issued a guideline on fragmented property investment (a new form of investment where two or more people invest in or trade fragmented interests in real property or any rights with the value of assets), clarifying that the FISCMA may apply to fragmented property investment. Therefore, if securities tokens fall under the category of fragmented investment products, the tokens should be issued and distributed in compliance with all regulations under the FISCMA, such as the submission of a securities registration statement, etc, as required in the ordinary issuance of the securities. However, if the tokens are recognised as innovative, they could be exempted from the obligation by applying for the financial regulation sandbox programme.

In February 2023, the FSC announced its plan to revise the regulatory framework on the securities-type token issuance and distribution (the “STO Guideline”) and that it is intending to amend the FISCMA to permit STOs in compliance with laws and regulations. In July 2023, amendment bill for the FISCMA and amendment bill for the AERSB were introduced to permit STO issuance and distribution to a certain extent. According to the amendment bills prepared by the FSC, tokenised securities means securities that are electronically registered in an account book that is in a distributed ledger form. A distributed ledger is defined as a ledger and its management system in which information about securities is jointly recorded in chronological order by multiple participants and is protected from unauthorised deletion and subsequent alteration through joint management and technical measures.

The government intended to finalise the amendments to the relevant legislations during 2023 to allow a one-year preparation period before permitting STOs by the end of 2024, but the amendment bills were not passed. For further details, please see1.1 Evolution of the Blockchain Market.

There are no specific rules or restrictions that regulate stablecoins. As stated in 2.2 Categorisation, depending on their structure and nature, stablecoins may constitute securities under the FISCMA and businesses involving stablecoins may constitute electronic prepayment means or electronic currency business, subject to the registration requirements provided under the EFTA.

The Korean Prosecutors’ Office brought criminal lawsuits against several key people involved in Terra Project based on the grounds that Luna may be considered securities under the FISCMA. Terra is a stablecoin that was issued and maintains its price at around USD1 under a protocol and Luna is another coin that can be exchanged for Terra. Luna was created to maintain the price of Terra.

However, the FSC has publicly stated that it views stablecoins as different from other digital assets in terms of their potential effect on financial stability due to the possibility of their rapid proliferation and ability to combine with various financial services. As such, the FSC believes it is necessary to establish international regulations and supervisory measures. Likewise, the Bank of Korea has opined that it views stablecoins as having the potential to provide stable value and benefits, such as cost reduction and financial inclusion compared to other existing digital assets; however,, because the existing regulatory and supervisory system is only effective to a limited extent in appropriately dealing with the potential risks, there is a great need to implement appropriate regulations such as greater transparency of stablecoin issuers and the sufficient provision of information for any risk assessment.

Currently, the South Korean regulatory authorities are known to have had initial discussions regarding the regulatory framework and methods for stablecoins. Therefore, it is necessary to closely monitor the direction and progress of these discussions.

The FSC has been consistently stating from the past that NFTs are not considered typical virtual assets, but if used as means of payment or investment, etc, they may be considered a type of virtual asset.

In the recent draft enforcement decree of the VAUPA, the definition of virtual asset excludes electronic tokens that exist uniquely and cannot be mutually replaced, primarily for collection purposes or for confirming transactions between parties (unless notified otherwise by the FSC). However, the FSC further added through media press releases that characterisation as an NFT is based on the substance rather than the use of the term NFT. Thus, even if labelled as an NFT, if it is issued in large quantities and can be mutually interchangeable with other tokens or if it can be used as a means of payment for specific goods or services, it is included within the scope of virtual assets.

It is the authors’ understanding that the financial authorities are currently preparing for a detailed guideline regarding NFTs to be publicly disclosed.

There are no regulations prohibiting the use of digital assets as electronic payment means under the EFTA. However, it is known that the FSC internally reviewed and concluded that “virtual assets cannot be considered electronic prepayment means due to their constantly fluctuating value”. Therefore, it seems challenging for typical digital assets to qualify as electronic payment means in the context of the EFTA.

Separately from the EFTA, there had been cases where digital assets were used as payment instruments. A private payment gateway service provider had rendered a payment service through which customers can purchase goods and services using a certain cryptocurrency issued by its affiliate and secured millions of users for a couple of years. However, it ceased to offer the payment service in 2023.

The structure of the payment gateway service provider involved purchasing tokens that were used as payment means and selling them to other merchants to settle payments. The issue was whether the token-to-Korean won trading was perceived as a virtual asset service that was subject to reporting requirements under the AML Act. The FSC claimed that the service was subject to such reporting requirements and, therefore, the payment gateway service provider sought to open verified real-name bank accounts. However, banks refused to open a verified real-name bank account. It should be noted that there are practical challenges in obtaining a verified real-name bank account, which is mandatory for token-to-Korean won trading.

However, it is the authors’ understanding that what the financial authorities were really concerned about was that the entity who issued the digital asset, which will be used as a payment means, and the entity who conducts payment settlements through the digital asset should not be affiliates of the same entity.

Furthermore, under the Special Act on Regulation-Free Zones and Regional Specialised Development Zones, the Busan Blockchain Regulation-Free Zone is designated as a regulation-free zone, and payment and settlement using stablecoins (digital vouchers) is recognised as an exception.

Discussion regarding this matter seems to be undeveloped and it is not widely known whether digital assets are accepted as collateral.

Regarding Wemix tokens, one of the reasons for their delisting from local virtual asset exchanges was the failure to disclose the amount of Wemix tokens provided as collateral for borrowing from DeFi platforms and not including such collateral amount in the total circulating supply. In the preliminary injunction case related to this matter, the court ruled that providing Wemix as collateral for borrowing constituted supply circulation and therefore the delisting decision was deemed lawful.

South Korean law does not clearly define smart contracts; however, they can qualify as regular contracts under the Civil Act if they meet the standard contractual elements of offer, acceptance, and mutual consensus. Under the Civil Code, a contract becomes legally binding when an offer is made and accepted; smart contracts could be treated similarly and are enforceable if concluded validly. But it is debatable what constitutes offer and acceptance in smart contracts. The Framework Act on Electronic Documents and Transactions defines an “electronic transaction” as a transaction conducted fully or partially by electronic documents when buying and selling goods or services. Given this, smart contracts ‒ which process transactions electronically ‒ are likely included under this definition. However, an electronic transaction itself as defined above cannot be regarded as legally enforceable.

Currently, the FSC does not accept applications for collective investment schemes (ie, funds) investing into virtual assets under the FISCMA. Additionally, the foreign exchange reports submitted for investments in overseas investment funds involving virtual assets ‒ as required under the foreign exchange regulations ‒ are not accepted by the relevant bodies. Thus, regulated firms and funds with exposure to digital assets are not generally permitted.

Additionally, the FSC has taken the stance that it will not allow investments in Bitcoin spot ETFs in South Korea. It also does not permit South Koreans to invest in such ETFs listed in the USA.

According to the SASFI, when a service is designated as an innovative financial service, businesses are exempted from certain regulations related to licensing, registration, reporting, corporate governance, business scope, soundness, business conduct, and supervision and inspection of the business or business operator in the applicable financial-related laws as specified by SASFI. An innovative financial service refers to any financial service recognised as being distinct from existing financial services in terms of details, methods, forms of service delivery, or services provided in the course of conducting business related to such financial services. This regulatory scheme is commonly referred to as the financial regulatory sandbox programme.

Currently, there are a few businesses that have been designated as innovative financial services in relation to the FISCMA under the financial regulatory sandbox programme. These services include real estate beneficiary securities token issuance by trust companies and trading platform, as well as a financial bonds trust beneficiary securities (with real estate as collateral) trading platform.

Additionally, under the Special Act on Regulation-Free Zones and Regional Specialised Development Zones, certain regulation-free zones are designated (ie, areas where regulatory exemptions or special regulations are applied to foster innovative businesses or strategic industries). The Busan Blockchain Regulation-Free Zone (the BBRFZ) is designated as a regulation-free zone to benefit from various regulatory exemptions including the following. A real estate fund beneficiary securities token issuance and trading platform was designated as a regulatory sandbox in the BBRFZ.

Regulatory exemptions allowed for the above-mentioned sandboxes are as follows:

• destroying personal information only off-chain is allowed exceptionally under the PIPA; and
• exemption from licence for securities exchange and securities brokerage required under the FISCMA.

In response to the Financial Action Task Force 2019 Guidance for a Risk-Based Approach to Virtual Assets and Virtual Asset Service Providers, the AML Act was amended by the National Assembly on 25 March 2020, with an effective date of 25 March 2021. Please see 4.1.4 Anti-money Laundering and Counter-Terrorism Financing (AML/CTF) Requirements for details.

As regards CBDC, the Bank of Korea issued a trial CBDC and is studying the technical possibility of operating a CBDC. So far, the Bank of Korea has confirmed normal operation of the basic functions of CBDC (minting, issuance and distribution) and, based on this, the Bank of Korea will assess the applicability of various additional functions (offline payments, etc). However, it is still unclear whether the Bank of Korea will issue CBDC in the future. For the actual issuance of CBDC, the Bank of Korea Act may have to be amended to allow a digital form of fiat currency instead of physical form notes.

Regulations regarding digital assets fall under the purview of various financial regulatory authorities such as the FSC and the FIU. Notably, the FIU serves as the primary regulatory body with regard to the AML Act, operating under the supervision of the FSC. Regulations pertaining to foreign exchange transactions are overseen by the Ministry of Economy and Finance (MOEF) and the Bank of Korea. Certain cross-border transactions involving digital assets, categorised as securities or payment means, may require reporting to the Bank of Korea or authorised foreign exchange banks. It is generally understood that these regulatory authorities adopt strict and conservative stances towards digital assets not to accept such reporting.

The Ministry of Science and ICT is responsible for general regulation and promotion of blockchain technology. Until recently, the industry promotion and policy-making tasks were managed by the National IT Industry Promotion Agency (NIPA), a subsidiary organisation of the Ministry of Science and ICT, but this has been transferred to KISA. Given that the Ministry of Science and ICT undertakes the role of promoting blockchain industry and technology, the Ministry tries to adopt an encouraging stance towards blockchain technology and industry by nature. The policy direction and stances of KISA should be observed going forwards.

Self-regulatory activities are voluntarily conducted by industry participants through Digital Asset Exchange Alliance (DAXA), the Korea Blockchain Industry Promotion Association, the Virtual Asset Finance Association, the Open Blockchain Industry Association, the Open Blockchain and Decentralised Identifier Association, the Korea NFT Contents Association, and the Korea NFT Association ‒ none of which have any legal basis for establishment. Thus, the self-regulations purported by these organisations have no legal enforceability or binding effect.

DAXA is formed by the five major South Korean virtual asset exchanges (GOPAX, BITHUMB, UPBIT, COBIT, KORBIT, and COINONE) that have opened up real-name Korean won-denominated bank accounts with Korean banks. DAXA is the most engaged and active in showing self-regulatory efforts.

The FSC formed the “Private Sector and Government Joint Task Force on Digital Assets” in August 2022 to discuss various issues relating to digital assets. According to press releases, the task force plans to discuss issues such as:

• the legal nature and rights relationship of digital assets and measures to respond to digital asset-related crimes;
• financial stability, CBDC and taxation issues related to digital assets;
• regulatory framework for the issuance and distribution market for digital assets; and
• comprehensive review of blockchain industry promotion.

The authors’ understanding is that the task force is engaged in various discussions on the regulation of NFTs and stablecoins, with specific details yet to be announced, and thus requires close monitoring going forwards.

In terms of the National Assembly, both the ruling party and the main opposition party have established special committees dedicated to digital assets under their respective umbrellas in order to carry out promised pledges. However, since the general election in April 2024, there have not been any meaningful activities.

Under the VAUPA (scheduled to be enforced on 19 July 2024), the FSC is permitted to establish a Virtual Asset Committee. Under the draft enforcement decree of the VAUPA, the Virtual Asset Committee’s role is to advise the FSC on policies and regulations relating to the virtual asset market and VASPs, and the committee will be composed of officials from the FSC, related administrative government agencies, legal professionals, professors, industry representatives and consumer representatives.

Please note that South Korea is not a common-law jurisdiction. The following court cases are provided to illustrate some meaningful insights in how virtual asset-related regulations are interpreted.

Cases Where Issuing Virtual Assets Can Constitute Fraud Under Criminal Law (Seoul Central District Court 2021GoHap925, 27 September 2022)

The lower court case ruling established the criteria for determining when issuance of virtual assets can be recognised as fraud under criminal law, as follows.

• Issuer and White Paper misrepresentation ‒ when the issuer falsely represents or omits important information in documents that are essential for initial investment decision-making, such as the White Papers, so as to pretend that it has the requisite technical or business capabilities.
• False disclosure – when exaggerated or false disclosures about the market conditions or the viability of the business is made, despite such disclosures being factually incorrect or having low chance of probability.
• Inducement of unfair trading – when investment is induced by suggesting that high return can be achieved through abnormal price manipulations artificially inflating the price.

Thus, it is prudent to be cautious and avoid the above-mentioned scenarios when issuing virtual assets.

Cases Where Virtual Assets Can Be Recognised as Investment Contract Securities (Seoul Southern District Court 2019Gadan225099, 25 March 2020)

The lower court case ruling established the criteria for determining when a virtual asset can be recognised as investment contract security under the FISCMA. An investment contract security refers to instruments bearing the indication of a contractual right under which a specific investor is entitled to the profits earned or liable for losses sustained, depending on the results of a joint venture with a third person, which is mainly operated by a third person and in which the specific investor invests money, etc (Article 4, paragraph 6 of the FISCMA). As issuing investment contract securities requires compliance with the procedures stipulated by the FISCMA, if a virtual asset is recognised as an investment contract security, non-compliance of the issuance procedure would be violating the FISCMA. In this case, the court ruled that ‒ although the token holders received a share of the issuer’s profit – such profit distribution was incidental to the activity of the issuer promoting the use of the tokens in transactions and is not considered an inherent contractual right embodied in the token nor an essential function of the token. Therefore, the token in question was not recognised as an investment contract security under the FISCMA.

This ruling establishes that the key criterion for determining whether a virtual asset is subject to the security regulations under the FISCMA is whether an investor’s holding token results in the sharing of profits and losses arising from the issuer’s activity for the joint venture.

Whether NFTs Constitute Prizes in Gambling Games Under the Game Industry Act (Seoul Administrative Court 2021GuHap65484, 13 January 2023)

Under the Game Industry Promotion Act in South Korea, games that provide prizes convertible to monetary value are prohibited (ie, gambling games). In a case where a game company attempted to convert in-game items into NFTs, the court examined whether the NFTs are prohibited prizes under the Game Industry Promotion Act. The court held that when a large number of NFTs are created – as per other general tokens – the NFTs are considered to be fungible and convertible and, in fact, the NFTs can be easily traded or circulated via exchanges. Hence the NFTs can be prizes prohibited under the Game Industry Promotion Act. It is advisable to take caution of this ruling when NFTs are utilised in games so that it is not deemed convertible.

In 2017, the related ministries and governmental agencies (including the FSC) announced the “Emergency Measures Related to Virtual Currencies”, which set out certain regulations in connection with virtual assets. The content of this announcement has since become the foundational standard for the development of virtual asset regulations.

The regulations announced at the time included:

• banks must confirm users’ identities and only allow deposits and withdrawals from the users’ own accounts (this later led to the real-name verification account regulation);
• exchanges must prohibit account opening and trading for minors under the age of 18 and non-residents (foreigners); and
• regulated financial companies must not hold, purchase, acquire as collateral, or invest in virtual currencies.

These restrictive regulations were introduced to prevent unprofessional retail individuals from being exposed to price-volatile digital asset investments and to prevent the virtual asset exchanges from deteriorating into speculative markets.

Since the announcement, the FSC has taken a strict and conservative approach towards financial products with virtual assets as the underlying asset. By way of example, the FSC stated that Bitcoin spot ETFs would potentially violate the regulations under the FISCMA and are contrary to the government’s stance because it means that financial companies would own virtual assets. This position has been reiterated even after Bitcoin spot ETFs were approved in the USA and thereby shows the FSC’s unrelenting position despite the regulatory shifts in several countries, including the USA.

However, as mentioned in 1.1 Evolution of the Blockchain Market, the opposition party recently announced plans to ask the FSC to reconsider its statutory interpretation regarding Bitcoin spot ETFs in response to the growing number of voices advocating for the approval of Bitcoin spot ETFs in South Korea.

Tax authorities have actively and widely interpreted the existing tax laws to impose taxes on digital assets. Consequently, numerous disputes have arisen regarding the legality of taxation under current laws such as the Inheritance and Gift Tax Act and the Value Added Tax Act, with many of the disputes still ongoing. Recently, the tax authorities have stated that transactions in which digital asset-issuing entities who provide digital assets for free to users who use specific services or meet certain conditions (such as “staking”, “hard forks” and “airdrops”) are generally subject to gift tax. As regards VAT, it was interpreted that the supply of digital assets that are mined by a business and sold on exchanges are not subject to VAT.

Meanwhile, the Income Tax Act and the Corporate Tax Act have been recently amended to include explicit provisions regarding digital assets. Under the amended Income Tax Act, which comes in to effect from January 2025, income earned by individuals by transferring or lending digital assets will be captured as “other income” under the law and thus will be subject to income tax. The amended Corporate Tax Act now clearly stipulates that income from digital assets is taxable for domestic corporations and it is clear that digital assets are included in domestic source income for foreign corporations with domestic business establishments. The criteria for determining whether income from digital assets constitutes “domestic source income” under the Income Tax Act and the Corporate Tax Act have not yet been clearly established.

However, the discussion on postponing the imposition of income tax for profits earned from transfer of digital assets is still ongoing. Therefore, it is necessary to closely monitor whether discussions to delay timing of taxation commencement will take place during the 22nd National Assembly, which is scheduled to start in June 2024.

In South Korea, regulations related to ESG and sustainability requirements regarding virtual asset activities (such as mining) have not been introduced. Although there have been reports in the news about the negative environmental impact of Bitcoin mining due to its significant energy consumption and greenhouse gas emission, there has not been sufficient drive for any legislative or policy discussions about it.

Personal information refers to information about a living individual that can identify the individual by itself or can easily be combined with other information to identify a specific individual (Article 2 of the PIPA). If information that meets these criteria is stored and processed on a blockchain, the storage and processing may be subject to regulation under the PIPA, even when such information is processed in an encrypted manner.

By way of example, to protect the right to be forgotten of data subjects (eg, individuals), the PIPA stipulates that personal information must be promptly destroyed when it is no longer necessary for the purpose of processing or when there is a deletion request from the data subject. For this purpose, “destroyed” refers to a method of permanently deleting the relevant personal information so that it cannot be restored or regenerated.

However, owing to the nature of the technology, the information stored in a blockchain is permanent and thus raises concerns about whether the services using blockchain technologies are in violation of the aforementioned regulations under the PIPA. Therefore, to address this concern, the government has revised the enforcement decree of the PIPA to permit anonymisation of personal information as a method of “destroying”, in addition permanent deletion. By anonymisation, the data subject should not be able to be easily identified when combined with other information. How easily a data subject can be identified will be determined by reasonably considering the time, cost and technology required.