Markets in Crypto-Asset Regulation: what does increased regulation mean for the European Crypto market?

Simone Peek & Casper Rooijakkers & Joris Viellevoije
26 Oct 2020

The European Commission (EC) has proposed new legislation on crypto assets. This is laid down in the draft Markets in Crypto-Assets (MiCA) Regulation and seeks to highly impact the crypto-asset industry. For every business involved in crypto-assets preparation is key.

Just the other day, Ursela von der Leyen, the EC’s President, stressed the importance of a ‘common approach with Member States on cryptocurrencies to ensure we understand how to make the most of the opportunities they create and address the new risks they may pose’. In line with this statement, the draft MiCA of 24 September 2020 sets out an ambitious EU-wide framework that regulates currently unregulated crypto-assets, including stablecoins, which are used as a means of exchange as they maintain a steady value.

The draft MiCA is seen as welcome regulation to the crypto market, which is often troubled by a reputation of being notoriously unregulated, legally opaque and is opposed to frequent encounters of Initial Coin Offering (ICO) scams. This proposal aims to counter many of those negative aspects surrounding crypto-assets, while also providing a more investor friendly framework. To anyone actively providing crypto-asset related services it is of great importance to prepare their businesses for the upcoming regulation.

Why is MiCA introduced?

The draft MiCA is part of the EC’s Digital Finance Package. This package carries a number of legislative proposals to shape the digital transformation of the EU financial sector. It aims to ensure that the EU financial services regulatory framework is suitable for innovating FinTech solutions and applications. One of the main examples is the Distributed Ledger Technology (DLT), a digital system that is shared, replicated and synchronized among the members of a decentralized network and records transactions such as the exchange of assets.

This proposal aspires to fulfill four objectives: (i) to ensure legal certainty by providing a sound legal framework for all crypto-assets, (ii) to support innovation and fair competition in the EU, (iii) to instil levels of consumer and investor protection and market integrity, and (iv) specifically addresses the so-called stablescoins, which might pose a threat to financial stability due to more potential global adoption.

Furthermore, this proposal is expected to provide a fully harmonised regime and are aligned with existing financial services regulatory framework. For instance, crypto-assets service providers will need to prepare to be authorized, comply with market abuse rules and provide a whitepaper similar to a prospectus.

To whom does MiCA apply?

This legislative proposal contains a definition of ‘Crypto-Asset Service Provider’ (CASP), which is derived from the definition of ‘Virtual Asset Service Providers’ of the Financial Actions Task Force’s (FATF), the global money laundering and terrorist financing watchdog. A CASP is any person whose occupation or business is to provide crypto-asset services to third parties on a professional basis. These crypto-asset services include, for example, providing advice on crypto-assets, custody and administration of crypto-assets on behalf of third parties, crypto-fiat exchanges, execution of orders for crypto-assets for third parties. Needless to say, the number of actors on the crypto market that will fall under the MiCA-regulation will be significant.

Additionally, the draft MiCA provides a framework for specific classes of crypto-assets that are currently unregulated. Moreover, this legislative proposal does not apply to crypto-assets that are already regulated as they qualify as, for instance, a financial instrument, e-money, deposits, structured deposits or securitisations.

The draft MiCA regulates three new categories of tokens and contains a catch-all definition:

Electronic money token, or ‘e-money token’, of which the main purpose is to be used as a means of exchange and that purports to maintain a stable value by referring to the value of fiat currency that is legal tender’. This type of crypto-asset is specifically aimed to regulate stablecoins backed by one fiat currency, such as USD Tether, USD Coin and (possibly) Facebook’s Libra.

Asset-referenced token, which is also a type of stablecoin, ‘purports to maintain a stable value by referring to the value of several fiat currencies that are legal tender, one or several commodities or one or several crypto-assets, or a combination of such assets’. In contrary to the e-money token, this type of crypto-asset could be backed by several underlying assets (other than one fiat currency), while still maintaining a stable value. Examples include DAI (Ether-backed) and Money on Chain (Bitcoin-backed).

Utility token, is a token that ‘is intended to provide digital access to a good or service, available on DLT, and is only accepted by the issuer of that token’. Utility tokens are often issued through an ICO to be used to access a good or service provided by the issuer. Popular examples of utility tokens are Golem (marketplace for computing power) and Basic Attention Token (advertising platform).

The catch-all-definition of ‘Crypto-asset’ is formulated as ‘a digital representation of value or rights which may be transferred and stored electronically, using distributed ledger technology or similar technology’. This definition is broader than the FATF definition of virtual asset as it leaves out the specific functions of a crypto-asset. As a result, any other –perhaps future- crypto-asset is expected to fall under the MiCA regime.

What are the obligations under MiCA?

Similar to the existing prospectus obligations when issuing securities, crypto-assets must be issued to the public (i.a. investors, customers) together with a whitepaper that meets several requirements (e.g. description of the project and token). In the case of asset-referenced tokens and electronic money tokens, the whitepaper needs to be approved by a local regulatory body of the EU Member State. It is not yet certain which Dutch local regulatory body will be assigned these tasks.

The issuance of electronic money tokens are only allowed if the issuer is a recognised credit institution or electronic money institution under the Capital Requirements Directive or the Electronic Money Directive.

CASPs are only allowed to perform crypto-asset services if they are authorised by the relevant national competent authority after filing an application to that end. Consequently, if authorised, it will benefit from the EU Passport regime and will not need physical presence in another EU Member State when providing cross-border services.

Additionally, all crypto-assets that are admitted for trade on exchange platforms are subject to regulation to counter market abuse. These measures include the obligation to disclose insider information as soon as possible and the prohibition of market manipulation. This should safeguard the market integrity and therefore result in a higher level of confidence of investors.

When to be ready?

The aim is to have the entire Digital Finance Package, with MiCA included, into full effect by 2024, though it still needs approval of the European Council and the European Parliament.

As with any FinTech solution and the rise of new applications such as Decentralized Finance (DeFi), an experimental form of peer-to-peer finance, regulation will always be a few steps behind the actual state of play.

However, should your business be involved in crypto-assets, MiCA will definitely have impact. MiCA brings various compliance obligations and infringements of MiCA could mean significant fines.

Therefore, it may be useful to start preparations for the upcoming legislation. This could mean assessing whether your business will qualify as a CASP under MiCA and needs authorisation. Also, when your business is planning to issue asset-referenced tokens, the drafting of a whitepaper could come in handy.

In case you need any advice in doing so, or should you have any other questions concerning the draft MiCA, do not hesitate to contact us; bureau Brandeis – Financial Services Litigation.