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TFR ambitions for trilogues: an efficient fight against financial crime requires preserving innovation
Recent money laundering and financing terrorism affairs in the European financial world have highlighted the necessity of a harmonised and cooperative regulatory framework for national supervisors and Financial Intelligence Units (FIUs) to deal more effectively with such activities. In this perspective, Adan supports the same objectives as the EU and has always been in favour of the harmonisation of AML/CFT rules to all European companies within the EEA.
According to Adan, the AML/CFT regime for crypto-asset markets is a necessity to ensure financial security and confidence within crypto markets. However, it would be inappropriate to replicate the current AML/CFT framework to this innovative industry without taking into account the specificities of this new asset class.
Yet, recent developments in the debates within the European Parliament and the Council of the European Union have raised important concerns for Adan, its members, and all players in the crypto-asset industry.
The exponential acceleration of negotiations in the last weeks and the desire to bring TFR into force at the same time as MiCA, whereas the latter draft regulation was published by the European Commission a year and a half before the TFR, could lead to a misunderstanding of the real issues in terms of AML/CFT for crypto-assets. The unjustified assimilation of crypto-assets to risky assets by nature is a perfect illustration of a misconception about blockchain technologies: if ML/FT risks do exist in the crypto universe, the true level of such risks is often overstated.
Furthermore, Adan regrets the lack of participation of European crypto-asset players to the debates, which would give a better understanding of their activities. They are indeed the best interlocutors to evaluate the impacts of the new regulatory proposals, point out the lack of realism of certain provisions in relation to the state of the market and share experiences regarding the opportunities offered by crypto-assets. Having all these elements in hand is a prerequisite for the implementation of an effective AML/CFT framework adapted and proportionate to the risks posed.
As currently drafted, TFR could undermine EU intention to ensure investor protection while providing an environment which fosters innovation. To achieve these objectives, Adan considers that TFR should be strengthened on four pillars:
Adaptations to exploit technological opportunities. Imposing existing rules and regulatory frameworks that are not fit for innovative blockchain technologies, would lead to missing the opportunity to actually improve AML/CFT in the financial sector and to leverage the possibilities provided by the underlying technologies. Transactional analysis tools (TATs) are becoming increasingly efficient and effective. Thanks to “on-chain” information (such as public addresses, transaction dates, transaction amounts, etc.), combined with “off-chain” external data, TATs make it possible to draw conclusions about the risks associated with a transaction or group of transactions. Due diligence can then be adjusted to the level of risk identified. In his report, Michael Morell – former Deputy Director of the CIA – underlines the interest of these new tools and encourages their systematic use for the surveillance of flows. In the end, setting the right requirements based on technological opportunities and tools will allow for building an efficient and optimal framework.
More proportionate rules based on a correct risk assessment. A lack of a granular risk-based approach could make the scope and rules too large to be efficient. By assuming by default that all operations on crypto markets have the same level of risks, the risk is not to tackle the true ones. Obligation for providers to notify the competent authorities of any transfer below €1,000 is not in line with a risk-based approach, since most transactions carried out via unhosted wallets present a very low ML-FT risk. In crypto-asset markets, the main money laundering cases are concentrated around a small group of players that are deliberately engaged in money laundering activities: “While billions of dollars’ worth of cryptocurrency moves from illicit addresses every year, most of it ends up at a surprisingly small group of services, many of which appear purpose-built for money laundering based on their transaction histories. Law enforcement can strike a huge blow against cryptocurrency-based crime and significantly hamper criminals’ ability to access their digital assets by disrupting these services.” To interrupt these actions, it would be more appropriate to further investigate these players, who could whitewash their illicit behaviours because of too much irrelevant information.
A level playing field between the crypto-asset sector and the traditional financial sector. It would be appropriate to provide the same exemptions to crypto-asset players as to traditional financial industry players. Indeed, while crypto-assets often have a cross-border nature, and these transfers can be executed more easily and quickly than traditional funds transfers, it is also necessary to take into account their transparency, one of the many other characteristics inherent to crypto-assets. The transparency of blockchain networks cannot be overlooked when addressing ML/FT risks and may well justify the implementation of a €1,000 exemption as transactional analysis tools can be used as an alternative to the travel rule for crypto-asset transfers below €1,000
Feasibility. To be fully enforceable, the Transfer of Funds Regulation will need to reflect the reality of the market and be pragmatic about what provisions can and cannot be implemented. Generally speaking, at the time of a transfer, crypto-asset service providers only have the public address of the originator or the beneficiary of the transfer. To date, players do not have a solution that currently allows them to retrieve the information referred to in the Regulation. In this respect, it appears complex for crypto-assets service providers to ensure that the owner of the unhosted wallet is the person who controls it, especially if that owner is not the customer of the provider. Moreover, most crypto-asset service providers do not have the information of the other crypto-asset service providers. As a consequence, rather than imposing such obligations on providers, it would be more appropriate to require entities subject to this Regulation to comply with the targeted financial sanctions and to put in place the corresponding adequate procedures.
A right balance between AML-CFT and the preservation of other basic rights. The desire to include new information when transferring crypto-assets raises important risks for the protection of users’ personal data and their privacy rights.
Beyond these substantive issues, the Transfer of Funds Regulation presents important broader issues that cannot be ignored:
Undermining innovation, especially decentralised activities. Prematurely inadapted regulations of crypto-asset markets – especially decentralised applications – may have a detrimental impact on the evolution of the sector. Such consequences could have important implications for the long-term viability of the European crypto-asset industry. However, these decentralised applications offer a wide range of innovative use cases:
- Decentralised Finance (DeFi): defined as a supplement to the traditional banking and financial system developed on public blockchain networks, DeFi provides a greater access to financial services. While it emerged in 2018 only, DeFi has already built valuable services for both citizens and economic actors like trading, lending, insurance, etc. That is why DeFi is taking a growing role in the current digitalisation of the European economy.
- Non-fungible tokens (NFTs): defined as unique tokens certifying the ownership of an asset, NFTs are reaching into many different economic segments: material (artwork, real estate and others) and digital (collectibles, digital avatars, digital artworks and others).
Implementation of the Travel Rule raises important issues for digital sovereignty. While the crypto-asset industry is mainly composed of promising small and medium-sized enterprises, negative developments around TFR could undermine the emergence of Europe’s future champions able to create a secure and innovative digital economy. Moreover, as there are currently no European solutions for the implementation of Travel Rule, all information on new “financial” flows in crypto-assets between European citizens and related data would be concentrated in the hands of foreign operators, who would have the complete vision and control over them.
Implementation of the Travel Rule raises important issues for information security. The transmission of information between CASPs requires a secure and accessible communication channel and an information standard. Moreover, the risk related to the protection of personal data of crypto-asset users must be taken into account. Adan considers that it would be dangerous to mandate players to automatically transmit very sensitive information to a CASP that potentially would not be supervised or in a much less strict manner than in France, Germany, Spain and other, or established in jurisdictions that could have an economic or strategic interest in exploiting this data.
Implementation of the Travel Rule raises important issues for European competitiveness. Europe’s desire to be a leader in the implementation of the Travel Rule on the crypto-asset markets through an immediate and sometimes extensive transposition of the rule compared to the previous FATF recommendations will undoubtedly have important consequences on the competitive freedom of European companies vis-à-vis foreign providers. This regulatory difference could lead to the flight of European players, which would considerably harm the EU’s competitiveness in the digital sector.
Adan remains entirely available to discuss these various points and to put interested persons in touch with the professionals of the crypto-asset sector concerned by the present regulation.
Adan (Association for the Development of Crypto-Assets) is a non-profit bringing together and representing crypto-assets and blockchain professionals in France and Europe. Adan’s members cover a wide range of activities: crypto-asset markets, custody, payments, investment management, blockchain analysis tools, support for crypto/blockchain projects, IT security, etc. Adan’s mission is to promote the development of the crypto-assets industry in favour of a new digital economy. To this end, the Association has technical and regulatory expertise in the world of digital assets and maintains a close dialogue with public authorities and industry associations.
Faustine Fleuret, President and CEO – [email protected]
Mélodie Ambroise, Head of Strategy and Institutional Relations – [email protected] Hugo Bordet, Regulatory Affairs Manager – [email protected]