Cryptocurrency Global Regulations Tighten as Financial Crime Risks Intensify

The European Union, through the European Parliament and Council, recently adopted and formally published its Fifth Anti-Money Laundering Directive (5AMLD). Under 5AMLD, cryptocurrency exchange platforms and wallet providers are brought within the EU anti-money laundering (AML) rules, including know-your-customer (KYC) requirements and reporting obligations for suspicious transactions. 5AMLD entered into force on July 9, 2018, and all EU-member states must implement its provisions in their national law by Jan. 10, 2020.

On July 3, 2018, a U.S.-based blockchain security firm released a report stating that cryptocurrency exchange theft in the first half of 2018 was three times the level for all of 2017, with a total of $1.5 billion in cryptocurrencies predicted to be lost to cyber-hacks by the end of 2018. According to the report, this increase in theft tripled the amount of cryptocurrency money laundering. The report was released on the heels of yet another major exchange hack, the $31 million theft from South Korea’s Bithumb, and right before the recent hack of $13.5 million from Switzerland’s Bancor.

Financial institutions are working with regulators to develop AML compliance tools to combat cryptocurrency-related crimes. For example, enterprise blockchain software firm R3 recently launched a KYC application on its Corda blockchain platform. Thirty-nine banks, financial service providers and central banking institutions participated in the test, completing 300 transactions over the four-day trial at the end of June. The application seeks to implement a unique self-sovereign model that allows customers to create and manage their own identities, including relevant documentation, and then grant permission to multiple participants to access this data, thereby eliminating the need for each financial institution to individually manage KYC records.

Concerns over the use of cryptocurrency in sanctions evasion also continue to plague regulators. A new U.S. executive order issued in March 2018 prohibited the circumvention of U.S. sanctions against Venezuela by using cryptocurrency, in part as a reaction targeted at Venezuela’s Petro token. A recent report by a firm specializing in Bitcoin investigations software raised similar concerns with regard to Iran, citing its analysis that “confirms that a portion of transactions originating from Iranian cryptocurrency services pass through western exchanges and financial institutions – a signal that Iranian cryptocurrency services do not face the same isolation felt by the country’s banks.”

Global Tax Regimes Evolve With Varied Perspectives as Market Seeks Clarity

Issues involving cryptocurrency taxation continue to gain press as regulation evolves inconsistently across global jurisdictions and market actors express a desire for clarity. A recent Cointelegraph article discussed the differences in tax policy across 10 jurisdictions: U.K., U.S., Japan, South Korea, Russia, South Africa, Canada, Brazil, Germany and Switzerland. Notable differences highlighted by the report include de minimis exemptions from tax on gains of £11,850 or less in the U.K., and BRL 35,000 or less in Brazil; discussion in Japan about implementing a flat tax in lieu of the current progressive tax on gains from cryptocurrency transactions; the absence of a gains tax in South Korea; and Germany’s full exemption from tax on gains when cryptocurrency is sold after being held for more than one year. A Bloomberg article provided more detail on tax policy in Germany, where the government recently clarified that Germany’s value added tax does not apply to peer-to-peer sales of cryptocurrency, the exchange of cryptocurrencies for goods or services, and cryptocurrency earned by mining.

A more comprehensive analysis of the tax treatment of cryptocurrencies across the globe can be found in a report issued in late June by the Law Library of Congress. One example from this report shows how cryptocurrencies are categorized differently in the following jurisdictions:

  • Israel: taxed as asset
  • Bulgaria: taxed as financial asset
  • Switzerland: taxed as foreign currency
  • Argentina and Spain: subject to income tax
  • Denmark: subject to income tax with losses deductible
  • United Kingdom: corporations pay corporate tax, unincorporated businesses pay income tax, individuals pay capital gains tax

In the U.S., there have been calls for more clarity on the rules governing cryptocurrency taxation from various groups, including the American Institute of CPAs. Meanwhile, a recent news article reported that the IRS has licensed software used to trace and identify the owners behind public keys on the Bitcoin blockchain.

Latest Trends for ICOs: Success Rate and Government Scrutiny of ICO Scams

Approximately 56 percent of crypto startups were no longer in business after just four months, according to a study from Boston College. The study tracked over 4,000 ICOs in the first half of 2018 by monitoring their Twitter accounts, and found that over half of these accounts were inactive within 120 days from the time their ICO was announced. The study also revealed that although the highest return on investment for ICOs has been for investors who purchase and sell the token on the first day of its listing, there has been a decline in these returns as more investors have taken advantage of this strategy.

Another survey of tokens with over $50 million in market cap found that over 80 percent of these tokens are scams, and over 10 percent more were abandoned and never made it onto an exchange. Thus, only 8 percent of tokens actually get traded on an exchange. These numbers are consistent with reporting by websites such as Dead Coins and Coinopsy, which list over 800 inactive crypto companies. Despite these risks, some investors have not shied away from the opportunity. For example, a venture capital firm in Hong Kong recently announced that they have invested $160 million in a company’s tokens in exchange for dividends.

Aware of the high volume of crypto scams, governments are continuing to regulate ICOs. SEC Chairman Jay Clayton has highlighted the SEC’s actions against fraudulent ICOs and called cyber threats “some of the greatest risks confronting today’s financial markets.” China, having already banned ICOs in 2017, is now working with instant messaging platforms to spot crypto trades by companies that have moved overseas but are still accessing the Chinese market through these apps. In the U.S., President Trump has also turned his attention to digital currency fraud and money laundering, establishing a Task Force on Market Integrity and Consumer Fraud, through an Executive Order, to provide guidance for the prosecution of these fraud cases and policy recommendations. FINRA also recently released a Regulatory Notice encouraging firms regulated by FINRA to report their activities related to digital assets.