Provisional agreement on MiCA: an overview of the crypto regulations

Are you looking for a compact summary of the MiCA regulations as well as information on the current status, the scope of application, the new classification of crypto assets and the future requirements for crypto asset providers? Look no further - we have summarized all the relevant information for you in this deep dive.

The political agreement for an EU regulation on markets for crypto assets ("MiCA") was reached at the end of June 2022. This makes it even more important to deal with the upcoming significant changes now.

Initial situation

Crypto assets are currently only subject to the applicable EU legal framework for financial services to a very limited extent. This creates uncertainty for innovative companies and significant risks for consumers and investors. The final version of the draft MiCA presented in summer 2022 is therefore a key part of the EU Commission's package of measures from September 2020, the Digital Finance Strategy, which aims to prepare Europe for the digital age.

Among other things, "EU passporting" is to be extended to crypto assets, so that in future it will be possible for a company licensed in one Member State to offer crypto services throughout the entire internal market with minimal additional licensing requirements. The procedure for the authorization of crypto service providers is also to be significantly accelerated.

The anonymous nature of crypto assets also still poses a major challenge for financial service providers due to the strict regulations on money laundering prevention. The extension of the EU Transfer of Funds Regulation ("TFR") associated with the MiCA is intended to pave the way for them to enter the crypto services business.

After a two-year legislative process and tough negotiations, the European Parliament and the European Council reached a provisional agreement on 30 June 2022. The trilogue is thus complete. However, the European legislators still need to formally approve the agreed version of the MiCA before it can enter into force, which is expected towards the end of 2023 or early 2024.

MiCA background

Crypto assets are digital assets based on cryptography and distributed ledger technology ("DLT"), namely the recording of transactions on decentralized electronic databases ("blockchain"). This makes them one of the most important applications of blockchain technology in the financial sector.

The majority of common crypto assets are currently unregulated. Only in individual cases are crypto assets classified as financial instruments within the meaning of the Markets in Financial Instruments Directive ("MiFID II") and are therefore already subject to European regulation. Existing regulations on consumer and investor protection and market integrity are therefore largely not applicable to financial services relating to crypto assets. Only selected crypto service providers have been subject to an EU-wide registration requirement since the 5th Anti-Money Laundering Directive came into force and must comply with the provisions on money laundering prevention, particularly the strict customer identification requirements.

Some Member States have already introduced national legislation for crypto assets. This has led to a certain degree of regulatory fragmentation, which distorts competition in the internal market and encourages regulatory arbitrage - i.e. the relocation of business activities to markets with less stringent regulations.

The EU's Digital Finance Strategy

MiCA is part of the Digital Finance Strategy, with which the EU Commission aims to prepare digital finance in Europe for the digital age in terms of innovation and competition. The EU Commission has presented the following drafts for a comprehensive EU framework for crypto-based financial services with the following cornerstones:

• Regulation on Markets in Crypto Assets (MiCA).
• Amendment to the MiFID II Directive (2014/65/EU): The definition of financial instruments is to include financial instruments based on DLT and the blockchain in future.
• Ordinance on a pilot scheme for DLT-based market infrastructures.
• "EU passport" for crypto services.

Purpose of the MiCA

A promptly established European legal framework is urgently needed to promote innovation in the financial sector. The MiCA is intended to create a fully harmonized legal framework for the issuance of crypto assets and the provision of related services that is open to innovation and technology. It also aims to protect consumers and investors, ensure market integrity and financial stability and promote fair competition. It creates the basis for a cross-border market for crypto issuers and crypto service providers so that the benefits of the single market can be fully exploited. Finally, it can also significantly reduce complexity and the financial and administrative burden for all parties involved.

New classification of crypto assets

The MiCA aims to cover the broadest possible spectrum of crypto assets in a technology-neutral and forward-looking manner. These are defined as "digital representations of values or rights that can be transferred and stored using DLT or a similar technology". A distinction is made between three categories of crypto assets:

• Value-referenced tokens ("ART") use various nominal currencies as a reference basis, which represent legal tender, one or more commodities, one or more crypto values, or a combination of such values, in order to achieve value stability. In addition to MiCA, they may also be subject to e-money regulation or payment services regulation.
• E-money tokens ("EMT") fulfill the main purpose of serving as a medium of exchange. They use a nominal currency, which is legal tender, as a reference base in order to achieve value stability. In addition to MiCA, they may also be subject to e-money regulation or payment services regulation.
• Utility tokens are intended to provide digital access to a good or service. They are available via DLT and are only accepted by the issuer of this token. They can also be referred to as utility tokens.

This new classification of crypto assets will form the basis for all future legal regulation of crypto assets. Crypto assets that qualify as financial instruments will be covered by MiFID II. The new classification will also render the current definition of "virtual currencies", which was introduced with the 5th Anti-Money Laundering Directive, obsolete.

Requirements for issuers of crypto assets

The MiCA provides for a number of requirements for issuers of crypto assets, depending on the type of crypto asset issued. The following general requirements are envisaged:

• Legal form: legal entity.
• Preparation of a cryptowert whitepaper: preparation, notification to the national competent authority and publication (as with capital market prospectuses, this results in the issuer being liable under civil law for the published information).
• General duties: Act honestly, fairly and professionally; communicate fairly, clearly and not misleadingly; act in the best interests of token holders and treat them equally, avoid/investigate/disclose conflicts of interest; access security of systems & protocols according to EU standards.

The general obligations of issuers are linked to the conduct of business requirements of MiFID II. Their interpretation will therefore be based on the interpretation of the MIFID II conduct of business rules.

The whitepaper serves disclosure and information purposes and is based on securities prospectuses in terms of its requirements. It must be registered with the national competent authorities of the Member State in which the crypto assets are marketed or admitted to trading on a trading platform and published on the issuer's website. The MiCA also regulates the content requirements of such a white paper. These include detailed project descriptions, information on the rights and obligations of the holder of crypto assets, information on the technology used and on possible risks.
With regard to the operation, organization and corporate governance of issuers of ARTs and EMTs, the MiCA provides for the following additional requirements. As they are particularly suitable for exchange purposes, they are classified as particularly high-risk.

The issuance of ART requires approval and authorization of the white paper by national competent authorities. Issuers must be domiciled in the EU and have sufficient own funds and asset reserves.

Issuers of EMT require a license as a credit institution or e-money institution. They are also obliged to comply with the requirements for the issuance and redeemability of e-money in accordance with the E-Money Directive. There are additional special requirements for the whitepaper to be published.

If certain ARTs or EMTs are classified as significant by the European Banking Authority ("EBA") according to predefined criteria, their issuers are subject to increased regulatory requirements.

Crypto assets are exempt from the obligation to prepare a white paper,

• which are offered free of charge or are automatically generated in return for mining or similar,
• which are unique and not fungible with other crypto assets,
• offered to fewer than 150 persons per Member State or only to qualified investors, or
• the total consideration of the public offer does not exceed EUR 1 million /12 months.

Requirements for crypto service providers

The following commercially provided activities are classified as crypto services under the MiCA:

• Custody/administration of crypto assets for third parties,
• Operation of a trading platform for crypto assets,
• Exchange of crypto assets for nominal currencies that are legal tender (also in the context of operating an ATM),
• Exchange of crypto assets for other crypto assets,
• Execution of orders via crypto assets for third parties,
• Placement of crypto assets,
• Acceptance and transmission of orders for crypto assets for third parties, and
• Advice on crypto assets.

An official license will be required to provide these services. Authorized crypto service providers are also subject to ongoing supervision.

Regulations regarding the prevention of money laundering

Money laundering prevention provisions are not regulated separately for crypto service providers in the MiCA - the EU has put together its own money laundering package coordinated with the MiCA. For example, the extension of the TFR stipulates that crypto service providers must obtain information on the identity of the originator and recipient of a crypto transaction. This so-called "travel rule" does not contain any thresholds. Only in the case of transactions between a crypto service provider and an "unhosted wallet" of a customer (these are exclusively independently managed wallets) does the crypto service provider only have to determine whether this wallet is actually owned by the customer if the transaction value exceeds EUR 1,000. Ultimately, European legislators do not want to implement the feared ban on unhosted wallets.

However, the MiCA provides for the European Banking Authority ("EBA") to keep a public register which will list crypto service providers that do not comply with European money laundering regulations in a "blacklist".

First evaluation of the MiCA

MiCA will create a uniform regulatory framework for crypto assets in the EU for the first time. The European legislator is using familiar regulatory instruments from financial market regulation, such as the Prospectus Regulation, MiFID II (licensing requirement for intermediaries offering services in connection with crypto assets) and the Market Abuse Regulation.

The consequences of MiCA for the German-speaking crypto market are difficult to predict. The MiCA sets demanding hurdles that small and newly founded companies in particular will have to overcome when entering the market. Of course, this entry threshold is also suitable for deterring dubious providers. Understanding and using innovative technologies and mapping bank-specific use cases will be a basic requirement. The first uniform legal framework for crypto assets in Europe and the planned passporting regime are further positive effects. New costs incurred for approval and compliance with regulatory obligations will be offset by efficiency gains due to the wider use of DLT-based tokens.

In any case, MiCA will very soon create new realities and play its part in ensuring that crypto assets are here to stay. DLT will permanently change the capital market for digital asset classes. It will be essential that the supervisory regime remains close to technical practice and that no avenues and development opportunities are blocked by overly restrictive supervisory regulations. Much will also depend on the administrative practice of the supervisory authorities, which would do well to create separate departments exclusively for the regulation of crypto assets, if this has not already been done.

What can we do for you?

With our extensive expertise in the fintech sector, particularly in advising cryptoasset companies, we can provide you with expert support in preparing for MiCA. We look forward to hearing from you.