Offshore vs. Regulated: What Are Brokers Doing in 2022?

Regulation for a forex and contracts for differences (CFDs) broker is an ever-more important aspect of the retail FX/CFD industry. Amongst other things, the regulation goes a long way to ensure the credibility of the broker and to varying extents, provides measures for the protection of clients’ interests.

However, there are many caveats to the regulation of brokerage firms: legitimate ones can either gain a license from an onshore or offshore regulator. However, offshore licenses do not provide the same trust to traders that onshore counterparts offer.

So, why are brokers still opting for offshore licenses? And, what is the brokerage licensing trend for 2022? Do they prefer onshore or offshore licenses?

Onshore regulators are the ones in major jurisdictions like the United Kingdom’s FCA, Australia’s ASIC, MAS in Singapore and several in the European Union. The Dubai Financial Services Authority (DFSA) in the Middle East is also considered to be in this category.

These onshore regulators are reputed for their stringent industry oversight and have one thing in common: they have a large domestic retail trading market. Thus, they are obliged to protect the interest of the domestic market.

However, the situation is different for offshore regulators. Most of them are located on remote islands or tax havens with near to no domestic retail trading demand. The only incentive of these regulators is to attract companies to their jurisdictions and benefit from their presence. The brokers, in return, can get a licence relatively easily for offering their services on a global scale.

Some of the popular offshore regulatory jurisdictions are Vanuatu, the Cayman Islands, Seychelles, the Bahamas and Mauritius. London-based Zenfinex obtained a Seychelles license earlier this year. However, in 2020, the jurisdiction welcomed Equiti Group, Plus500, Skilling, BDSwiss and Valuetrades.

Interestingly, most of the reputed onshore brokers have one or two offshore licenses under their sleeves.

Why an Offshore Alternative?

There are many advantages to obtaining an offshore regulatory license for a forex and CFDs broker. The most highlighted one is the availability of higher leverage levels when compared to the onshore options.

ESMA, the FCA and ASIC, have all brought heavy restrictions on the offered leverages to retail traders in recent years. These are to reduce risks and increase consumer protection. So now, brokers are gaining offshore licenses to circumvent these trade leverage restrictions for their clients outside the onshore regulator’s jurisdictions.

However, leverage is not the only factor for moving to an offshore jurisdiction. For instance, brokers under an offshore license can run aggressive marketing campaigns, while European and Australian watchdogs have heavy restrictions on marketing and promotional offers.

“Also [offshore brokers are] able to take clients from regions that would be problematic with your local regulator, for example, those from Japan, China, Canada,” the Co-CEO of TRAction Fintech, Quinn Perrott pointed out.

Another factor is flexibility over asset classes. For instance, the United Kingdom’s financial market supervisor does not allow brokers to offer cryptocurrency CFDs, while such instruments are in massive demand. However, a brokerage with an offshore license can still offer crypto CFDs to its retail customer based outside the UK.

“Brokers like to have the flexibility to offer a more diverse set of products than the large OnShore regulators allow. This is always a balancing act for regulators as they need to protect consumers but also don’t want to push business away to other jurisdictions,” Tom Higgins, the CEO of Gold-i, said.

Despite heavy restrictions, both in terms of trading conditions and products, a trading account with an onshore broker will always be the safest option for a trader.

“It gives the investors greater confidence that they’ll be treated fairly in the first place, and if they aren’t treated fairly, they’ll have a strong regulatory authority to fall back on,” said Remonda Kirketerp-Møller, the Founder and CEO of Muinmos.

Changing Offshore Regime

However, the offshore regulatory regime is slowly changing. Though it varies from one jurisdiction to another, offshore regulators are bringing tighter requirements to set up companies.

“The pendulum is slowly swinging away from offshore licensing,” said Sophie Gerber, a Director at Sophie Grace and TRAction Fintech. “This is due to a few factors, including the increasing compliance burden, such as requiring local staff, with some adding leverage restrictions.”

“Other more practical matters, such as banking and payment processing difficulties with offshore jurisdictions make the overall operation extremely difficult. Often the payment processors and banks are requiring legal opinions to be provided about the regulatory status of the organization, and this can be prohibitive.”

The shift in the offshore regimes’ stance towards the financial services boom is already visible.

The Bahamas, which was one of the most desired destinations for setting up a brokerage firm, ramped up its requirements in 2020. The local regulator increased the annual cost of having a license in the Bahamas drastically to more than $230,000 per year, which is almost 15 times more than the $16,500 it used to be.

Vanuatu, another desired offshore jurisdiction, is also closing its gates. Presently, the Vanuatu Financial Services Commission (VFSC) requires the physical presence of at least one direct employee who matches a 'fit and proper' description. And, companies offering digital assets must have three people onshore, one of whom is the CTO. Along with that, they must provide a minimum capital of $500,000, a custodianship license from another jurisdiction, and an established track record.

Perrott said: “Vanuatu is becoming more difficult as they are requiring firms to have a formal local presence where this was not previously required. Similarly, more restrictions are being introduced in the Bahamas, which is reducing the appeal of that jurisdiction.”

If all the offshore jurisdictions increase their regulatory requirements, most of which seem to be going in the direction of local involvement and set up rules, the only advantage left for brokers will be higher leverage levels they can offer.

In that case, brokers with only an offshore presence can consider entering the mainland with approvals from regulators like CySEC, which has a much lower entry barrier than other reputed brokers.