Why should crypto-operators, exchanges and custodians get a DLT licence in Gibraltar?




Summary: The scale, speed of growth and increase in consumer awareness and involvement in the crypto sectors makes the need for independent oversight and review of operators in the sectors urgent. Customers and counterparties of crypto-operators rightly will expect that operators meet minimum standards in key areas including in respect of: protecting client assets; anti-money laundering; treating customers fairly; and ensuring that audits are carried out of assets and systems of control used by such operators.


Whilst most operators in the crypto-space have a strong desire to disrupt the existing financial services sectors some basics remain timeless. That particularly applies to the need to protect customers and their assets, act with probity, have a good management team and financial processes. The smarter and better managed operators will realise the tremendous value that can be achieved by having a regulator and a licence for their crypto-related operations.


In a recent article we outlined Gibraltar’s status as a leading international crypto-hub and its new Distributed Ledger Technology (DLT) Provider regime that comes into force on January 01 2018. The Gibraltar Financial Services Commission has recently published its new Guidance Notes for the DLT Provider regime: http://www.fsc.gi/dlt  


Prior to the new regime coming into force, we have already seen well respected crypto-businesses like Xapo set up in Gibraltar as an e-money institution in readiness for the new DLT regime. They have joined our other great e-payments businesses already established here (PayoneerWaveCrestTransact and IDT).


In addition, the Gibraltar Stock Exchange has recently announced plans to launch a new blockchain exchange and we already have TokenMarket (one of the major new token creation platforms) based here and planning to launch a regulated exchange.


Why should international cryptocurrency exchanges and custodians care?


The current lack of regulatory oversight for most of the cryptocurrency and crypto-asset sectors should give cause for alarm even to crypto-enthusiasts. The recent rise in price in a wide-range of cryptocurrencies, have followed the significant price appreciation and even greater media coverage of bitcoin (BTC.X). BTC.X can now be accessed on the unregulated crypto-markets as well as through some regulated wrappers (such as Exchange Traded Notes — see GBTC- and now the commodities futures markets in Chicago (on both the CBOE and the CME) and we are seeing an increase in tax and regulatory wrapped products that provide exposure to an asset that remains difficult to access for most people and for institutions.


Cryptocurrencies do not in themselves require regulation, indeed regulating them is a little like regulating gravity (what would be the point?). The position in respect of more proprietary forms of crowdfunding using crypto-tokens is slightly different and in some cases such products do constitute securities and, even if not, the offer of the same should be subject to some minimum standards (see previous article on this topic here). However, there is a clear and urgent need to implement some regulatory standards that cover DLT operators who may be involved in managing significant digital assets of their customers (whether cryptocurrencies or tokens).

The significant benefits in brand value, counterparty credibility and customer confidence of having a financial services regulated entity (subject to independent oversight) should not be under-estimated and will allow the best operators to stand out from the crowd. For good operators, positive regulatory regimes also provide a competitive moat, especially in this new area of commerce.


Current state of the cryptocurrency markets


The jaw-dropping price appreciation of the last month or so in the crypto space has been so rapid it has been difficult to keep track of the potential wider impact. The estimated market cap for cryptocurrencies alone is now approximately USD500bn (and most of the value has occurred in the last few months as you can see from the charts).



In addition, we have seen exchanges like Coinbase, Bitrex, Bitfinex, Bitstamp and others become very popular with retail customers. In fact, the Coinbase free app became the number 1 app in Apple’s US store in December 2017. This has also driven the price of the leading coins higher (BTC.X, ETH.X and LTC.X) as they are readily available on Coinbase, and many other alt-coins (which may be harder to buy and hold securely without some technical knowledge) have since started to also follow the leader BTC.X in price appreciation.


With so much value now being exchanged and stored on behalf of customers, many of whom will be consumers, and with the recent uptick in interest in cryptocurrencies likely to remain and continue to increase (whatever happens to the short-term price of such coins) then the need for independent oversight and some clear operational standards on key market players is necessary to maintain confidence in the overall market.


We have seen before the risks involved in people relying on intermediaries to store and transmit cryptocurrency on behalf of others (Mt Gox). The irony of decentralised forms of value exchange (that were created to avoid the need for reliance on trusted counterparties) being subject to significant counterparty risk is not lost.


However, whilst cryptocurrencies remain valuable and securing them safely offline takes technical and operational skill beyond most people’s ken or interest then such counterparties are potential weak links in the blockchain space. In addition, we must expect both drops in the value of cryptocurrencies and failures of market counterparties and ensure that steps are taken to try to mitigate the harm that flows from the same. Having a DLT Provider licence will help show your customers and counterparties that you are a serious player that plans to manage operational difficulties and build your business to weather the storms.


We have also recently seen some concerns raised about the use of so called Token tethers (in one notable case tokens that are representative of an underlying US dollar position). Tethers are normally intended to be entirely backed on a 1–1 basis, that is they represent a form of securitised token that may or may not meet the definition of a security in a particular jurisdiction.


You can tether to commodities, currencies and real world assets. In the case of fiat currency tethers, and leaving aside the technical and legal difficulties of operating a secure robust fiat tether coin without your own central bank deposit and settlement account, there are also concerns that without independent oversight and audit it could be possible for people to create a tether token that is not backed 1–1. Many of the concerns about tethers would not likely arise if the operators involved were regulated. A regulator could take action to ensure systems in place were adequate to manage financial risks and operational issues and that communications on the structural integrity of such tokens was clear and comprehensive to the market.


In addition, good cryptocurrency exchanges and custodians want to be able to benefit from easier access to payment and banking services and having a financial services authorisation in a respected jurisdiction will assist with that and with relationships with other financial entities.


We also expect to see FinTech businesses wishing to use blockchain solutions for various sectors (e.g. property ownership and management, payments, savings, insurance, brokering, healthcare, energy, derivatives, investments and RegTech) look at the suitability and attractiveness of the regime for elements of their operations — particularly those that currently fall outside of existing financial services regulatory environments but that would benefit from independent oversight and higher standards to increase customer confidence.

Making an application


As this is a new regime the boundaries and practical requirements are yet to be determined, so it is crucial to engage with your FinTech regulatory advisorsand the GFSC as early as possible. The initial application assessment fee by the GFSC is £2,000 and any operators that submit full applications following initial assessment shall pay full application fees to the GFSC of between £8,000 and £28,000 — depending upon the complexity of the application (determined by the related initial application assessment). Annual authorisation fees shall be between £10,000-£30,000.


Applicants will be invited to attend a meeting in person and present their business plans and demonstrate that they have suitable technology expertise and an understanding of the risks related to their DLT operations. Detailed compliance documentation will be necessary for the final application stage and our in-depth experience, as lawyers and compliance experts, financial services, electronic payments and AML laws means that we are able to support you with these requirements.


It is important for readers to note that the Gibraltar approach and our regulatory regime requires you to have a real presence in Gibraltar with an office and registered employees. The jurisdiction wants the value of knowledgeable and highly experienced people to continue to grow our e-commerce hub.


Gibraltar is now taking a lead in this new area of e-commerce innovation and sees the crypto-economy (which is much wider than cryptocurrency related activities) as an area where it can be globally competitive as a small jurisdiction.


We believe Gibraltar has what it takes to be the international leader in this space, if you feel the same about your team and project then you should come join us and be part of the next stage of Gibraltar’s fascinating multi-cultural community and modern day economic success story.


About Ramparts


We are a boutique finance and technology professional services business. Our team in Gibraltar consists of a range of legal, compliance and accounting professionals with significant in-house and private practice experience in finance, financial services, e-commerce, e-payments and online gambling sectors. We also offer lower cost retainer packages for SME’s that require regular ongoing support for their legal, compliance, corporate, accounting and tax issues.


If you are interested in knowing more about Gibraltar as a place to base your crypto-related business, please contact Peter at Ramparts


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