The Treasury’s recent consultation on cryptoasset regulation takes the UK a step closer towards closing the gap with the EU in this space. But how closely will the UK framework align with the EU’s? In this piece, we explore ten areas of potential difference between MiCAR and the proposed UK regime.
Background
As previously discussed, the Treasury recently published its long-awaited consultation on the future regulatory regime for cryptoassets. Whereas prior to the consultation the UK was playing catch-up with the EU, which has proposed its own regulation on markets in cryptoassets (MiCAR), the race to regulate crypto has now significantly narrowed. While the approaches appear to be broadly aligned in many respects, certain areas of potential divergence are emerging.
10 key differences
1. Single comprehensive framework versus phased approach
The EU’s legislative answer to cryptoassets regulation came in the form of MiCAR: a single pan-European crypto regime intended to provide comprehensive regulation of the crypto industry and replace the divergent approaches of its member states. The UK, however, has opted for a phased approach, with Phase 1 covering fiat-backed stablecoins used for payment and Phase 2 covering other cryptoassets.
Much of the detail of the UK regime remains to be fleshed out by the Treasury, the FCA and the Bank of England, which could take some time. By contrast, much of the regulatory detail is already contained within the MiCAR legislation, albeit with some further technical standards to be produced by the European Supervisory Authorities. The precise degree of divergence between the two regimes is therefore not yet completely clear.
As is typical in the EU, MiCAR has had to go through a long and cumbersome legislative process. Even after nearly three years in the making, the legislation will not be adopted until later this year, with most of the rules beginning to apply 18 months later. While the UK has proposed comprehensive regulation of the sector at a much later stage, and is yet to finalise the substance of its rules, it could potentially act more quickly so as to meet the EU at the finish line.
2. Integration with the existing regulatory landscape
In order to achieve the commonly held regulatory objective of “same risk, same regulatory outcome”, the Treasury is proposing to integrate stablecoins and other cryptoassets into existing legislative frameworks, such as the Regulated Activities Order and Electronic Money Regulations. Many elements of MiCAR echo regulations applicable in the traditional markets and attempts have been made to avoid regulatory overlap. However, fundamentally, MiCAR represents a new, standalone piece of regulation, the parameters of which are defined in part by reference to underlying technology. In some cases, this is expected to lead to outcomes that are not technology-neutral, particularly in relation to stablecoins backed by a single fiat currency. The UK is attempting to avoid this, including through the use of more technology-agnostic definitions (as discussed below). However, whether it achieves this in practice remains to be seen.
3. What is a “cryptoasset”?
While drawing from the same international standards (such as the Financial Action Task Force’s definition of “virtual asset”), the definitions of “cryptoassets” currently contemplated by the EU and UK do exhibit some differences. The EU definition is, for instance, explicitly tied to distributed ledger technology or similar technologies, although the EU has emphasised that these terms should be interpreted as widely as possible to capture all the different types of cryptoassets. A more technologically neutral approach has, by contrast, been adopted in the UK, where the definition of cryptoasset does not refer to a particular type of technology (except to say that the asset must be “cryptographically secured”).
Additionally, after much debate it was determined that truly non-fungible tokens (NFTs) would fall outside the first iteration of MiCAR, although not all tokens labelled “NFTs” in the market would be considered non-fungible. The Treasury’s proposal is couched in slightly different terms. Notably, it indicates that any type of NFT would have the potential to be included in the future regulatory perimeter if it is used in a regulated activity. That would appear to include making a public offer of an NFT or operating an NFT trading platform. While it is not yet clear how this will be translated in the final rules, there is potential here for considerable divergence in relation to NFTs between the UK and EU regimes.
We would expect that technological deployments that merely use DLT as a means of recordkeeping (and which do not give rise to a distinct asset) should fall outside the scope of both MiCAR and the UK’s cryptoasset regulations. While it is relatively clear that such deployments will fall outside MiCAR, at this stage there remains a degree of uncertainty in the UK, given the broad definition of cryptoassets. The Treasury does have the ability to narrow this definition when it comes to defining the precise boundaries, however.
4. Categories of cryptoassets
Cryptoassets within the scope of MiCAR may fall into one of three categories:
- Electronic money tokens, which are cryptoassets that “purport to maintain a stable value by referencing” the value of a single fiat currency
- Asset-referenced tokens, which are cryptoassets that purport to maintain a stable value by referencing “any other value or right or a combination thereof” (which are not otherwise regulated, e.g. as financial instruments)
- A third catch-all category which captures any other cryptoasset that is not an electronic money token or asset-referenced token.
The regulatory framework depends on the categorisation of the cryptoasset, with asset-referenced tokens broadly facing the heaviest regulatory burden and those in the catch-all category facing the lightest. “Significant” electronic tokens and asset-referenced tokens are also subject to additional requirements, for example in relation to prudential safeguards. Algorithmic stablecoins are intended to be regulated as e-money tokens or asset-referenced tokens, despite no asset backing as such. The purpose a cryptoasset serves is largely irrelevant to its categorisation under MiCAR (except that asset-referenced tokens and electronic money tokens that are used as a means of exchange are subject to certain caps and monitoring requirements).
The UK takes a different approach to categorisation. Fiat backed stablecoins which are used in payments will be regulated as a matter of priority, and on a different basis to other cryptoassets. It remains to be seen what the parameters of this are (including how stablecoins used for both payment and investment purposes are treated). The regulatory treatment of other cryptoassets is not differentiated under the Treasury’s proposals. Instead, it appears their regulatory treatment will largely be determined by how those cryptoassets are used and whether this will constitute a regulated activity. That includes asset-backed tokens that do not qualify as financial instruments, algorithmic stablecoins and crypto-backed tokens. The Treasury’s proposals also do not currently contemplate any caps or monitoring requirements in relation to exchange tokens.
5. Scope of regulated activities
There is considerable overlap between the list of regulated activities under the Treasury’s proposals and under MiCAR. Key points of divergence have, however, arisen. The Treasury is, for instance, proposing to regulate the activity of operating a cryptoassets lending platform. This is not currently included in MiCAR. It may be that following recent market turbulence and prominent failures, this is soon revisited by the EU.
On the other hand, some activities that are covered under MiCAR are not proposed to be caught by the Treasury within Phase 2, such as advising on cryptoassets.
6. Issuance of cryptoassets
Both the EU and UK propose to regulate the issuance of cryptoassets (including through disclosure obligations on issuers), upon admission to trading on a regulated trading venue or a public offer. Both also place obligations on trading venues in the absence of any identifiable issuer, although it is not yet clear if the UK and EU rules in this respect will operate in exactly the same way. In terms of the nature of disclosure obligations, the EU requirements are largely an adaptation of its prospectus regime (e.g. MiCAR generally requires a disclosure document in the form of a “whitepaper”, and there are exemptions from this requirement for qualified investors or where a deminimis threshold is not reached, mirroring those under the prospectus regulation). The UK has similarly indicated that its issuance regime will be based on the UK’s prospectus regulation. However, the Treasury has so far reserved its position somewhat, noting that traditional disclosure and issuance regulations for securities may not map well onto cryptoassets and that it is still considering whether ongoing requirements will be placed on issuers.
7. Overseas issuers and service providers
To issue an electronic money token or asset-referenced token under MiCAR, an issuer must establish a legal entity in the EU. A cryptoasset service provider operating under MiCAR must similarly have its “place of effective management” in the EU, at least one director residing in the EU and have a registered office in the member state in which it is authorised. While the Treasury has made clear that it wants to regulate activities provided “in or to” the UK, it has for now left open the question of whether overseas firms will be required to have a physical presence in the UK to access the UK market (although the consultation paper does say that firms operating cryptoassets trading venues would likely be required to establish UK subsidiaries). Both regimes have proposed a reverse solicitation exemption for cryptoasset services solicited by the customer from third country service providers. The Treasury has also considered the possibility of equivalence arrangements with third countries, which, as yet, has not been contemplated by the EU.
8. DeFi
European authorities have indicated that while services provided in a “fully decentralised manner” should not be in scope of MiCAR, many activities within the DeFi ecosystem will be caught, as they involve some form of regulated activity being conducted by a centralised entity. In many ways, the Treasury’s approach appears to be similar. The notable difference is that, as we have said above, the UK is purporting to make operating a cryptoasset lending platform a regulated activity as part of Phase 2, whereas MiCAR does not do this. Both the UK and EU have also suggested that more tailored regulatory approaches for truly decentralised activities will be explored at a later stage.
9. Market abuse
The EU and UK are both proposing to introduce a market abuse framework for cryptoassets. At this stage, the frameworks appear to be similar in scope and application. Each type of restricted market abuse is, for instance, based on the existing regulatory framework and both regimes extend liability for market abuse to a wide range of market participants, while placing specific market abuse prevention obligations on issuers, cryptoassets service providers and trading venues.
10. Financial promotions
As we have previously discussed, the UK is bringing “qualifying cryptoassets” within the scope of its financial promotions regime. This is in part down to the UK’s phased approach, under which cryptoasset service providers will not be fully regulated or require a licence to operate in the short term. The UK will attempt to bridge that gap by requiring financial promotions from these entities to be subject to rigorous controls, even in the absence of wider regulation. The EU, on the other hand, regulates marketing activities in respect of cryptoassets through MiCAR. For example, marketing communications of offerors and cryptoasset service providers are required to be fair, clear and not misleading.