In a nutshell:
Great news from the Swiss Financial Market Supervisory Authority (FINMA): After the FINMA indicated in spring 2023 that staking-as-a-service for Ethereum (ETH) could fall under Swiss banking law, Switzerland's suitability as a hub for digital asset companies was questioned internationally. This uncertainty has now been removed, and the requirement for a banking licence for staking-as-a-service providers is off the table.
Upon joint intervention of the industry, in which MME was strongly involved, FINMA has carefully examined the technical parameters related to ETH-staking. FINMA concluded that, as long as the service is set up the right way, banking regulations do not apply. How such a staking setup must be structured is summarised below. The requirements are easy to meet – Switzerland is definitely back on the map as one of the leading jurisdictions in the digital asset & Web3 space.
In more detail:
In summer 2023, FINMA reviewed the topic of custodial staking and concluded that certain custodial staking models may qualify as deposits under the Banking Act. Non-custodial staking, i.e. direct staking without a custodian on a Proof-of-Stake (PoS) or Delegated Proof-of-Stake (DPoS) network, was not discussed.
This announcement has caused concerns in the Web3 industry in Switzerland because many business models of financial intermediaries in the Web3 sector would not be economically viable without custodial staking services.
After various interactions with industry organizations and the recently established Financial Innovation Desk (FIND) of the State Secretariat for International Finance (SIF), FINMA has now published its practice, which we welcome. The guidance not only provides clarity, but also encourages innovation and adaptation of Web3 technologies without jeopardizing the security and reputation of the Swiss financial center.
How shall ETH staking-as-a-service be technically setup?
There are two basic setups for ETH custodial staking services:
- Staking provider operates nodes itself: If a custodian operates the technical infrastructure for the validator nodes itself, both the withdrawal key and the validator key, also known as the signing key, are held by the custodian. In this case, the custodian has exclusive control over the crypto-based assets at all times. This satisfies the legal requirement (Art. 16 para. 1bis of the Banking Act) to keep the assets available to the client at all times.
- Staking providers outsources operation of nodes: If the custodian outsources the operation of the technical infrastructure for the validator nodes to a third party, the custodian shall at all times retain control of the crypto-based assets within the meaning of Art. 16 para. 1bis of the Banking Act, if the validator keys are held by the third party and the withdrawal keys are held by the custodian.
In addition, this requires that the third party (i) has signed a message with validator keys prior to commencing its services or setting up a node, which is sent to the staking (beacon) deposit contract, thereby irrevocably designating the customer's withdrawal address, and (ii) sends a pre-signed Voluntary Exit Message (VEM) – a message sent by the validator to the beacon chain in case of voluntary exits to queue the validator exit process – to the custodian off-chain.
This ensures that the staking rewards and the 32 ETH allocated to the node can only go to the customer's withdrawal address, and that the custodian can dissolve the node at any time by sending (broadcasting) the VEM and dispose of the 32 ETH without the intervention of a third party.
Alternatively, the third party can provide the validator keys to the custodian in advance in a secure manner, whereby the custodian can dissolve the node and dispose of the 32 ETH at any time after determining the exit address using the validator keys without the intervention of the third party.
Fiduciary deposits as an alternative solution?
The custodial-staking service can also be structured as a fiduciary deposit. Fiduciary deposits are defined as the placement of time deposits (domestic and foreign currency) with mostly foreign banks or other financial institutions (financial intermediaries) for investment in return for a commission. In accordance with the fiduciary agreement, the client bears the currency and transfer risk as well as the del credere risk of the financial intermediary. This excludes any risk on the part of the financial intermediary from the fiduciary investment and there is no deposit in sense of the Banking Act. However, according to FINMA, the financial intermediary must directly hold the keys to the ETH (validator and withdrawal keys). Outsourcing of the keys by the financial intermediary is not permitted (Art. 16 para. 2 of the Banking Act).
General contractual and operational requirements
Regardless of the setup chosen, the custodian must ensure that:
- Clear instructions to the customer for staking, including the number of native crypto-based assets required for staking, and the chances and risks, must be communicated to the customer in a transparent and understandable manner.
- The custodian must continually review the operational risks of its staking service and adjust the service as necessary (also part of the BCM concept).
The custodial staking issue affects ETH and likely other Proof-of-Stake protocols, because for staking a transfer of the native assets is required. However, a qualification as banking deposit also requires that the native assets of a protocol qualify as payment instruments according to the Banking Act, which is not the case for mere utility tokens.
Our team will be happy to answer any further questions you may have.
