Cryptocurrency Regulation (Blockchain series — Part VII)
From an individual and organizational perspective
Digital tokens can be extremely useful for both prospective holders and organizations. These tokens guarantee fair and transparent use of technologically advanced platforms, present investment opportunities to holders, and allow organizations to achieve transaction efficiency and dissolve online barriers between geographic regions. Cryptocurrency regulation, or lack there of, however, has the ability to stifle the growth of the blockchain industry. While organizations are more likely to experience direct consequences from regulatory tactics, individual holders also have the potential to be positively or negatively affected. Each nation has its own policy toward digital assets, therefore, it is impossible to cover every country in this article. We can (and will) discuss the policies of a few countries that are typically subject to conversation. Token holders should research their nation’s laws before trading digital assets.
Probably one of the most controversial countries regarding cryptocurrency, but possibly one of the largest markets for blockchain, the United States is currently an unfriendly location for blockchain-based companies. The Securities and Exchange Commission (SEC), a federal agency responsible for regulating investable assets, has repeatedly disregarded tokens as legitimate “securities,” but still can label them as such. The labeling of tokens as securities can cause a multitude of issues for companies if proper registration, filing requirements, and fee payment is not recorded with the SEC. There is no set policy in deciding the state of a token. Instead, the Commission uses the Howey Test to determine whether a cryptocurrency is a security.
Under the Howey Test, a transaction is an investment contract and thus security if:
1. It is an investment of money.
2. There is an expectation of profits from the investment.
3. The investment of money is in a common enterprise.
4. Any profit comes from the efforts of a promoter or third party, not the investor.
Keep in mind, this test was established in a Supreme Court case from 1946. A valid argument can be made that the test should not be applied to any cryptocurrency. That being said, the U.S. congress is incredibly slow in developing up-to-date regulation and the SEC has little options on the way in which to classify digital assets. Companies can file security forms with the SEC to partake in a public or private token sale within the U.S., but the process is expensive and tedious.
Token holders within the U.S. fortunately do not endure similar consequences from a lack of regulation. Anyone is allowed to purchase and sell cryptocurrency. Gains or losses on digital assets are subject to taxation at the end of the year in the same manner as gains or losses on traditional investable assets, such as common stock.
Considered as the cryptocurrency capital of the world, Switzerland has one of the most advantageous environments for blockchain-based companies and token holders. Where the SEC has failed in classification, the Swiss Financial Market Supervisory Authority (FINMA), Switzerland’s security regulatory agency, has not. FINMA classifies cryptocurrencies into 3 categories:
1. Payment Tokens- Tokens which are intended to be used, now or in the future, as a means of payment for acquiring goods or services or as a means of money or value transfer (Bitcoin or Ether).
2. Utility Tokens- Tokens which sole purpose is intended to provide access digitally to an application or service by means of a blockchain-based infrastructure.
3. Asset Tokens- Assets such as a debt or equity claim on the issuer. Asset tokens promise, for example, a share in future company earnings or future capital flows. Tokens which enable physical assets to be traded on the blockchain also fall into this category.
FINMA only considers Asset Tokens and some Utility Tokens used for economic gain as securities. These tokens are subject to both civil and security law requirements; which ensure investors are provided with sufficient information and good behavior practices are performed. Payment Tokens and Utility Tokens that are not used for economic gain are not subject to security regulation and experience less civil law constraints. Payment Tokens must comply with anti-money laundering regulation, however.
Token holders enjoy significant benefits from the progressive nature of Switzerland’s regulatory actions. Just as within the U.S., individuals are not restrained on buying and selling tokens. Gains and losses on cryptocurrency are not recorded and taxed. Rather, an end-of-year wealth tax is applied to the token holdings. The rate has yet to be decided, but Swiss citizens typically enjoy favorable tax regulation. Furthermore, prospective token holders in Switzerland will most likely be at the forefront to obtain traditional commonalities new to the blockchain industry, such as depositing tokens securely with financial institutions.
Like Switzerland, Malta has established itself as a crypto-friendly nation. Two governmental agencies supervise blockchain innovations; the Malta Financial Services Authority (MFSA) and the Malta Digital Innovation Authority (MDIA). Both agencies are responsible for enforcing three pieces of DLT legislation:
- Malta Digital Innovation Authority Act (MDIA Act)
- Creates the Malta Digital Innovation Authority to “address the development in Malta of all innovative technology arrangements and innovative technology services.”
- Grants the Authority the power to “recognize applicants that use intrinsic elements including software, codes, computer protocols and other architectures which are used in the context of DLT, smart contracts, and related applications; investigate applicants suspected of disregarding quality and integrity standards required for purposes of recognition or compliance with the law; and sanction parties who do not comply with a fine of up to €12,000 or imprisonment for up to three months, or both.”
2. Innovative Technology Arrangements and Services Act (ITAS Act)
- Outlines the ways in which the Authority can acknowledge “innovative technology arrangements and innovative technology services.”
- Allows the Authority to certify the “qualities, features, attributes, behaviors, or aspects of a particular arrangement as fit for a particular purpose or purposes, and then issue a certificate that ‘shall state the details of how the innovative technology arrangement is identified, including any public key or brand name, and the certificate shall be given a unique number for purposes of identification.’”
- Requires a “registered technical administrator, who can prove to the Authority that the arrangements can satisfy the service listed on the certificate.”
3. Virtual Financial Assets Act (VFA Act)
- Regulates ICOs.
- Mandates that “no issuer can make an ICO without first publishing a white paper that has been signed by every member of the issuer’s Board of Administration and contains ‘information which, according to the particular nature of the issuer and of the virtual financial assets offered to the public, is necessary to enable investors to make an informed assessment of the prospects of the issuer, the proposed project, and of the features of the virtual financial asset.’”
- Necessitates that “information must be presented in ‘an easily, analysable, and comprehensible form.’ The white paper must also include a warning that the ‘offering of virtual financial assets does not constitute an offer or solicitation to sell financial instruments.’ Finally, the white paper must be approved by a registered VFA agent, who must be appointed and be ‘at all times in place’ with the issuer in order to ensure compliance with the law.”
The laws are intended to protect investors and users, while not stifling technological growth. As before, any Maltese citizen can purchase or sell tokens. Citizens are required to pay capital gain taxes on short-term crypto-currency investments, but may be able to avoid all taxation for holding tokens long-term.
China (Excluding Hong Kong!)
One of the harshest environments for blockchain-based companies and cryptocurrency holders, China has remained content with curbing the trade of all digital tokens within the country. Between the end of 2017 and the middle of 2018, the Chinese government banned all initial coin offerings (ICOs), crytpo-fiat exchanges, peer-to-peer sales, and access to foreign exchanges and ICO websites. While the Chinese government appreciates the technological capabilities of blockchain, individuals nor companies located in China can legally trade digital tokens. These regulations do not apply to the region of Hong Kong, which, like Switzerland and Malta, is considered a safe haven for cryptocurrency.
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