According to a draft 167-page proposal which was just released and is expected to be presented in the coming weeks, the EU is set to become the first major jurisdiction to regulate cryptocurrencies. The proposal imports financial services legislation principles and applies them to the crypto arena, with ad-hoc licences, terms and ex-ante conditions for each target service. In essence its very similar to what we have built in Malta in the past years, with the VFA regime.
Let’s delve however into some of the details of the proposed text. The proposal is part of the Digital Finance package, a package of measures to further enable and support the potential of digital finance in terms of innovation and competition while mitigating the risks to the market, users, investors and consumers. It is presented as a draft Regulation which will be the framework enabling markets in crypto-assets, the tokenisation of traditional financial assets and wider use of DLT in financial services. The aim is to have this draft Regulation accompanied by other legislative proposals including amendments to existing financial services legislation.
The draft Regulation starts by defining different forms of tokens and crypto asset and also proposing an interesting definition for ‘distributed ledger (technology’ or ‘DLT’ means a class of technologies which support the distributed recording of encrypted data).
It aims to regulate and apply to :
- issuers of crypto-assets which means a person who offers crypto-assets to third parties;
- crypto-asset service providers which means any person whose occupation or business is the provision of one or more crypto-asset services to third parties on a professional basis;
- crypto-asset services which means any of the services and activities listed below relating to any crypto-assets:
- the custody and administration of crypto-assets on behalf of third parties;
- the operation of a trading platform for crypto-assets;
- the exchange of crypto-assets for fiat currency;
- the exchange of crypto-assets for other crypto-assets;
- the execution of orders for crypto-assets on behalf of third parties;
- the placement of crypto-assets;
- the reception and transmission of orders for crypto-assets on behalf of third parties;
- the advice on crypto-assets;
- the execution of payment transactions in asset-referenced tokens.
This proposed Regulation however shall not apply to crypto-assets that qualify as:
(a) financial instruments within the meaning of Article 4(1)(15) of Directive 2014/65/EU30;
(b) electronic money within the meaning of Article 2(2) of Directive 2009/110/EC31, except if they qualify as an electronic money token under this Regulation;
(c) deposits within the meaning of Article 2(1)(3) of Directive 2014/49/EU32;
(d) structured deposits within the meaning of Article 4(1)(43) of Directive 2014/65/EU.
(e) securitisation within the meaning of Article 2(1) of Regulation (EU) 2017/240233.
This proposed Regulation shall also not apply among others to the following entities and persons :the European Central Bank and national central banks when acting in their capacity as monetary authority or other public authorities;
(a) insurance undertakings or undertakings carrying out the reinsurance and retrocession activities referred to in Directive 2009/138/EC34 when carrying out the activities referred to in that Directive;
(b) a liquidator or an administrator acting in the course of insolvency procedure, except for the purpose of Article 29 of the Regulation;
(c) persons who provide crypto-asset services exclusively for their parent companies, for their subsidiaries or for other subsidiaries of their parent companies;
(d) the European investment bank;
(e) the European Financial Stability Facility and the European Stability Mechanism
Its interesting to note that the proposed Regulation should also include the transitional provisions. In order to avoid disrupting market participants that provide services and activities in relation to crypto- assets that have been issued before the entry into application of this Regulation, the text proposes an exemption for issuers of crypto-assets from the obligation to publish a whitepaper and other requirements applicable set out by this proposed Regulation. However, these transitional provisions should not apply to issuers of asset-referenced tokens, issuers of e-money tokens or to crypto-asset service providers that, in any case, should receive an authorisation under this Regulation. (my emphasis)
Authorisations granted by the competent Authorities under the proposed Regulation shall be valid for the entire Union and the applicant would need to have a legal presence in the EU. The European Securities and MarketsAuthority (ESMA) & European Banking Authority (EBA) take a central role in this Regulation and have important roles,functions and powers. ESMA for example shall establish a register of all crypto-asset service providers. Together with EBA they have powers to issue technical guidelines and binding decisions which are very pertinent for example when money tokens are concerned. Article 100 of the proposed Regulation underlines the vast supervisory measures available to EBA, which also has investigative powers and powers to impose fines. Speaking of fines the Regulation also aims to have a harmonised approach on sanctions and fines which follows previous models in competition Law as well as Data Protection.
It’s a pity that even thou this sector is rife with technology issues, bugs, cyber security issues and is also dependent heavily on technology and automation, the proposed Regulation fails to tackle software assurance and auditing. This albeit calls as well from the European Observatory last year, to at least consider software auditing when you have complex smart contracts.
The Malta Financial Service Authority with its existing VFA regime would be well placed to navigate in this sector as its already handling applicants in the crypto sphere and has a legislation in place which covers a substantial amount of the requirements of the proposed Regulation. It also has trained and licenced VFA agents to act as gate keepers for the authority, thus placing Malta as a jurisdiction of choice for the effective implementation of this Regulation.
Ian Gauci is the Managing partner at GTG Advocates, Afilexion Alliance & Caledo Group. He lectures Legal Futures and Technology at the University of Malta.
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