The regulation of cryptoassets: EU agrees new regulatory framework

October 2022  |  SPECIAL REPORT: FINANCIAL SERVICES

Financier Worldwide Magazine

October 2022 Issue

On 30 June 2022, the Council of the EU and the European Parliament reached a provisional agreement on the proposal for a Regulation on Markets in Crypto-Assets (MiCA). MiCA, which has been described as a “landmark regulation”, forms part of the EU’s digital finance package proposed by the EU Commission in September 2020. MiCA aims to create a harmonised framework for the regulation of cryptoassets in the EU and is intended to address a broad range of concerns including supporting innovation and competition, consumer protection, cryptoasset market integrity, as well as the financial stability risks that may arise from the use of distributed ledger technology (DLT) in financial markets and the increasing use of cryptoassets more generally.

Cryptoasset taxonomy

Cryptoassets, which are currently regulated, for instance as financial instruments under MiFID II, or as electronic money (e-money) under the Electronic Money Directive (EMD), will continue to be so regulated, and will be excluded from MiCA.

For all other cryptoassets, MiCA identifies three sub-categories which should be subject to more specific requirements: (i) utility tokens, which are cryptoassets intended to provide digital access to a good or service, available on DLT, and which are only accepted by the issuer; (ii) asset-referenced tokens (ARTs), which aim to maintain a stable value through referencing several fiat currencies, commodities, cryptoassets, or a combination of such assets, although this excludes ‘algorithmic stablecoins’ which do not reference one or several other assets; and (iii) electronic money tokens (EMTs), which are intended primarily as a means of payment, and aim at stabilising their value by referencing only one fiat currency.

There are certain types of cryptoasset, such as cryptoassets that are only able to be transferred with the issuer’s permission or non-fungible tokens (NFTs), which will be outside of the scope of MiCA. The Council has confirmed that within 18 months the Commission will be required to prepare a comprehensive assessment on NFTs, and (if necessary) proposals for a specific and proportionate regulatory approach to them.

Service provider terminology

MiCA will apply to persons in the EU who are issuers or cryptoasset service providers (CSPs). An issuer includes any legal person who offers to the public any type of cryptoasset or seeks admission of such cryptoassets to a trading platform. A CSP provides one (or more) of the following services: (i) services which involve the operation of a cryptoasset trading platform, exchanging cryptoassets for fiat currency that are legal tender or other cryptoassets by dealing on their own account, and the service of ensuring the custody and administration of cryptoassets for third parties, or ensuring the control of means to access such cryptoassets; and (ii) the placing of cryptoassets, reception and transmission of orders for cryptoassets, the execution of orders for cryptoassets on behalf of third parties, and the provision of advice on cryptoassets.

MiCA requirements

MiCA seeks to address the concerns noted above by establishing uniform rules in several areas, including: (i) transparency and disclosure requirements for the issuance, offering and admission to trading of cryptoassets on a cryptoasset trading platform; (ii) the authorisation and supervision of CSPs, and issuers and offerors of ARTs and EMTs; (iii) the operation, organisation and governance of issuers and offerors of ARTs and EMTs and CSPs; (iv) consumer protection rules for issuance, trading, exchange and custody of cryptoassets; (v) market abuse preventative measures; and (vi) measures to prevent the use of cryptoassets for illicit purposes, and to protect the internal market from the risks of financial crime.

Issuers

Issuers will need to be legal entities incorporated in an EU member state, and will generally need to produce and publish a cryptoasset whitepaper which contains mandatory disclosures designed to inform prospective purchasers about the characteristics, functions and risks of the cryptoassets. The whitepaper will also need to include general information about the issuer, the project for which funds are being raised, the public offer and admission to trading, and the underlying technology being used and any related risks. The information in the whitepaper will need to be “clear, fair, and not misleading”. Issuers and their management body will be subject to civil liability rules for the information provided.

Certain offers to the public will be exempt from the requirement to publish a whitepaper, for example where a cryptoasset is not an ART or EMT, and is offered for free, is unique and non-fungible, or is offered exclusively to “qualified investors”.

Whitepapers will need to be notified to the issuer’s competent authority prior to a public offer or admission to trading, and, although there will not be an approval process for cryptoassets which are not ARTs or EMTs, competent authorities will have the power to request that further information be included in the whitepaper. Competent authorities will also be able to suspend or prohibit a public offer or admission to trading which does not meet applicable requirements, and to publish a warning to that effect.

Purchasers who acquire cryptoassets (other than ARTs and EMTs) directly from the issuer or from a CSP placing cryptoassets on behalf of an issuer will be provided with a cooling-off period, within which the purchaser may withdraw from the acquisition.

Issuers of ARTs and EMTs will need to be authorised by a competent authority. Issuers of ARTs will need to be authorised by a competent authority, where the competent authority is required to consult with the European Banking Authority and the European Securities and Markets Association (ESMA) prior to granting or refusing authorisation. If an ART references EU currencies, the European Central Bank and national central bank of such currency must also be consulted. Issuers of EMTs will generally need to be authorised as a credit institution under the Capital Requirements Directive, or as an e-money institution under the EMD.

Whitepapers relating to issuances or admissions to trading of ARTs or EMTs will need to contain additional information, for example in the case of ARTs information on the stabilisation mechanism and investment policy of reserve assets, and be approved by the competent authority, subject to certain exemptions.

Issuers of ARTs will have an ongoing obligation to provide information to holders of such tokens and must disclose any event which is likely to have a significant impact on the value of the ARTs or reserve assets (whether admitted to trading or not). Issuers of ARTs will also be subject to strict requirements regarding the reserve assets, and the prudent management of such assets, and must have detailed policies regarding the composition, allocation and risk assessment of reserve assets, as well as the custody of such assets. Issuers of EMTs will also have to adhere to requirements as to the investment of funds received in exchange for EMTs, which must be invested in assets denominated in the same currency as the EMT.

Once a cryptoasset whitepaper has been published and notified in one member state (and both the issuer and whitepaper are approved, in the case of ARTs), the issuer or CSP placing the cryptoasset will be able to make a public offer on a cross-border basis across the EU.

CSPs

A CSP which is not already authorised as a credit institution or investment firm will need to be authorised with the competent authority of the member state in which its registered office is located, which will supervise its activities. Once a CSP is authorised for specific services in one member state, it will be able to provide those services, and no other services, across the EU on a cross-border basis. While national competent authorities will have responsibility for authorisation and supervision, the ESMA will maintain a register of EU CSPs. Issuers and whitepapers will also be included in that register.

CSPs will be subject to requirements like those which apply to MiFID investment firms, including conduct of business requirements, prudential requirements and organisational requirements. CSPs will also have to adhere to requirements regarding their safeguarding of clients’ cryptoassets, and there will be particular requirements which must be satisfied depending on the services which a CSP provides.

MiCA allows for reverse solicitation in respect of third-country CSPs. However, a third-country CSP will not be able to solicit clients in the EU, or to promote or advertise its cryptoasset services in the EU without an EU-registered office and authorisation.

Environmental considerations

Initially, it was suggested that the energy intensive proof-of-work consensus mechanism, such as that used in the Bitcoin blockchain, would be banned under MiCA. However, in the Council and Parliament’s provisional agreement, it was confirmed that this would not form part of MiCA as it will be initially enacted. Instead, certain actors in the cryptoasset market will be required to make disclosures regarding their environmental and climate footprint, and ESMA will be tasked to develop draft regulatory technical standards on the content, methodologies and presentation of information related to principal adverse environmental and climate-related impact. Within two years, the Commission will be required to report on the environmental impact of cryptoassets, and the introduction of mandatory minimum sustainability standards for consensus mechanisms such as proof-of-work.

What is next?

The provisional agreement is subject to approval by the Council and Parliament before going through the formal adoption procedure, after which the final text will be published in the Official Journal. MiCA is expected to apply in 2024.

 

Charlotte Hill is a partner, Daniel Hirschfield is a senior professional support lawyer and Katie Fry-Paul is an associate at Taylor Wessing LLP. Ms Hill can be contacted on +44 (0)20 7300 7011 or by email: c.hill@taylorwessing.com. Mr Hirschfield can be contacted on +44 (0)20 7300 4107 or by email: d.hirschfield@taylorwessing.com. Ms Fry-Paul can be contacted on +44 (0)20 7300 4213 or by email: k.fry-paul@taylorwessing.com.

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Charlotte Hill, Daniel Hirschfield and Katie Fry-Paul

Taylor Wessing LLP

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