EU Proposals – a Comprehensive Framework for Digital Assets
The EU’s proposed framework for crypto assets was announced on 24 September 2020 as part of the European Commission’s Digital Finance Package (which aims to enhance the competitiveness of the fintech sector in the EU), and seeks to regulate crypto assets that currently fall outside the scope of the EU’s regulatory regime to provide for a single licensing regime across all member states. The proposed framework is particularly notable given that, if adopted, it will create the “most significant” regulated space for cryptocurrencies in the world, in addition to subjecting stablecoin issuers to enhanced regulation.
Crypto assets are defined in the MiCA as “a digital representation of value or rights which may be transferred and stored electronically, using DLT or similar technology”.
Generally, the MiCA will apply to any cryptoassets that are not already subject to EU regulation, meaning that cryptoassets which qualify as financial instruments (i.e. security tokens, which are already subject to EU financial services regulation) and e-money subject to the EU’s E-Money Directive will fall outside the scope of the MiCA. Crypto assets which qualify as deposits, structured deposits and securitisation will also not fall within the scope of the MiCA.
The MiCA will therefore regulate the likes of utility tokens (defined as a type of crypto asset intended to provide digital access to a good or service available on DLT and accepted only by the issuer of that token), stablecoins (also known as “asset-referenced tokens”) and e-money tokens (which are tokens which do not fall within the definition of electronic money). Asset-referenced tokens are defined as a type of crypto asset that purports to maintain a stable value by referring to the value of several fiat currencies that are legal tender, one of several commodities or one or several crypto assets, or a combination of these assets. An e-money token is a crypto assets whose main purpose is use as a means of exchange and that purports to maintain a stable value by referring to the value of a single fiat currency. This would include USDC, the stablecoin issued by Circle which is backed by US dollars. There is also a specific mention of “significant” stablecoins, which will include “global stablecoins” (i.e. the likes of Facebook’s Libra). The scope of the MiCA is further broadened with the catch-all definition of “other crypto assets”, which is intended to cover all other crypto assets (such as Bitcoin and Ether) which are not covered by other regulatory regimes.
Which crypto asset services will be caught by the regime?
The scope of services which would be caught by the regulation are broadly similar to existing regulated activities under EU law and would include trading platform operators, custodial services, and exchange service providers (including crypto-to-crypto exchange; fiat-to-crypto and vice versa). It would also cover the placement of crypto assets, executing payment transactions in asset-referenced tokens and providing advice on crypto assets. The proposed regime would only allow crypto asset services to be provided by a legal person with a registered office in an EU Member State and that legal person would have to be authorised and licensed in an EU/EEA Member State as a crypto asset service provider. The authorisation will be “passportable”, meaning that services can be provided throughout the EU, once authorised in a Member State. In order to obtain a crypto asset service provider licence, an entity will need to meet requirements similar to those applicable to financial service providers including capital requirements, organisational and conduct requirements.
The MiCA adopts a broad definition of “any legal person who offers to the public any type of crypto assets or seeks the admission of crypto assets to a trading platform for crypto assets”. Certain requirements will be imposed on those falling within the definition of an “issuer”, including that:
- an issuer must be a legal entity. The requirement to establish a legal entity to provide crypto asset services is aimed at providing investors with an identifiable party against which they may seek redress;
- issuers will also be subject to minimum disclosure requirements (i.e. they must publish a whitepaper, which satisfies certain minimum content requirements (similar to the requirements under the EU Prospectus Regulation) and complies with the requirement that disclosures are fair, clear and not misleading). In the case of issuers of asset-referenced tokens (stablecoins), they will be further be required to seek authorisation. The MiCA will impose liability on the issuer for damages in the case of failure to meet the requisite standards.
- issuers must also comply with the requirements set out in Article 13 of the MiCA (which broadly relates to conduct and communication requirements, conflicts of interests and security).
In the case of issuers of stablecoins (“asset-referenced tokens”) or e-money tokens, the requirements are more far-reaching. Issuers of e-money tokens and asset-referenced tokens will have to be established in the EU. Issuers of e-money tokens will also be required to be authorised as an e-money issuer under the E-money Directive and issuers of stablecoins will be required to be authorised under the MiCA. Exemptions are available from the authorisation requirements for both e-money token issuers and asset-referenced token issuers for small-scale offerings of up to EUR 5 million within 12 months and offerings solely to qualified investors.
There is no requirement for issuers of general crypto assets to be established in the EU.
MiCA will also introduce more stringent requirements and enhanced supervision requirements for “significant” asset-referenced tokens and “significant” e-money tokens. Issuers of significant e-money or asset-referenced tokens will be subject to a higher capital requirement of up to 3% of reserve assets and will have to put in place a liquidity management policy. The assessment of whether a particular token is significant will be made by the European Banking Authority having regard to factors such as a market capitalisation or value of at least EUR 1 billion, having at least 2 million customers and use in at least seven EU member states.
If adopted, MiCA would apply across the EU to all member states and would be directly applicable, meaning implementation at a national level would not be required. In addition, firms outside the EU would be impacted, to the extent that they do business within the EU. Issuers seeking to issue stablecoins or e-money tokens in the EU would therefore be required to be established in the EU and be duly authorised.
Comparison to efforts elsewhere and what the Proposals mean for the future of the “crypto” race
It has been tentatively suggested that the proposals will take up to four years to be formally adopted in EU legislation. This is taking into account the legislative process (which may take up to one or two years) and an 18-month transition period for authorisation, as indicated in the proposals. There are a handful of European nations which have pushed ahead with innovative frameworks to capture the opportunities in the crypto sphere, however there is no over-arching regulatory regime, which is in some ways at odds with the cross-border nature of many crypto businesses. This was a concern for some startups in the crypto space, with some relocating from Europe to more “favourable” regulatory spaces in Asia. This fragmented approach in the EU was one of the key motivating factors behind the proposals (and in particular the “passporting provision”), as identified by the Vice President of the European Commission, who indicated that fintechs are facing many barriers to exploring the full potential of the single market. Looking ahead, one of the key benefits of the proposed framework would therefore be access to a new EU single market for crypto assets.
A broadly similar picture has emerged in Asia Pacific. We have seen a patchwork of regulatory approaches evolve, ranging from Mainland China’s prohibitive approach and outright ban (in some areas) to Japan’s more progressive legislative efforts, which have been welcomed by the crypto industry. Hong Kong lies somewhat in the middle, as regulators try to strike a balance between risk management and investor protection on the one hand and ensuring innovation is not stifled on the other. Therefore, generally speaking, those operating in the crypto sphere in the EU and Asia Pacific face the same main challenge – knowing, understanding and complying with the restrictions, requirements and obligations from jurisdiction-to-jurisdiction. Of course, Asia Pacific is not comparable to the European Union (given there is no comparable economic and political union (of that scale) in the APAC region), however that is not to say that a coordinated or harmonised effort is not possible. For example, this is, to a more limited extent, what the FATF recommendations are seeking to accomplish.
As for how the legislative efforts in Europe and Asia Pacific differ, the main distinction is pace. Broadly speaking, regulatory efforts in Asia have gained momentum over the past few years, and we have seen APAC emerge as a “hotbed” for digital innovation. Many queried whether we would see this momentum replicated in Europe and it seems that with the EU proposals, there is real potential. On the other hand, concerns have been raised that the EU proposals favour incumbent financial institutions  (over fintech startups) and so it remains to be seen whether the framework will strike the right balance between fostering innovation and mitigating risks, a balance which can all too easily be thrown off by over-regulation or barriers to entry set too high. This is a familiar concern in Hong Kong, a concern which has re-emerged in light of the FSTB proposals, particularly the proposed prohibition on virtual asset exchanges servicing retail investors. Co-founder of the Bitcoin Association of Hong Kong, Leo Weese, has complained that the move would “overshoot” the Hong Kong Government’s goal of promoting innovation and financial inclusion.