An outlook on the future of cryptocurrency regulation in Australia
In October 2021, the Senate released its Select Committee on Australia as a Technology and Financial Centre (the Committee) final report. This final report followed the release of two earlier interim reports in September 2020 and April 2021.
The Committee made a range of recommendations across its first two interim reports. The final phase of the inquiry focussed on areas identified as key areas affecting the competitiveness of Australia’s technology, finance and digital asset industries, namely;
The regulation of cryptocurrencies and digital assets;
Issues relating to ‘de-banking’ of Australian FinTechs and other companies;
The policy environment for neobanks; and
The options to replace the Offshore Banking Unit.
The focus of this blog will be the regulation of cryptocurrencies and digital assets.
Data shows that Australians have had a strong uptake in cryptocurrencies. Survey results reveal Australia as being one of the highest per capita adopters of cryptocurrencies, with approximately 25% of Australians either currently or previously holding cryptocurrencies.
Unlike other jurisdictions, Australia has not yet introduced fit-for-purpose regulatory systems for these emerging technology sectors. This contributes to creating uncertainty for project developers, businesses, investors and consumers.
To this end, the Committee has put forward eight recommendations to address these issues:
1. Establish a market licensing regime for Digital Currency Exchanges (DCE).
At a minimum, this regime would include capital adequacy, auditing, and responsible person tests. This recommendation was made in the context of two issues:
The Australian Securities and Investments Commission (ASIC) Information Sheet 225 (INFO 225) provides that trading in crypto assets may involve the operations of a financial market. Under the current regime, the application for a market licence is complex and has large capital and operational requirements, making it onerous for smaller startups.
The current requirement for DCEs to register with the Australian Transaction Reports and Analysis Centre (AUSTRAC) for anti-money laundering and counter-terrorism financing (AML/CTF) is considered ‘light-touch’ in practices and imposes minimal obligations.
The Committee was of the view that a more thorough AML/CTF licensing regime is required and recommended the creation of a new category of market licence for DCEs. An enhanced AML/CTF would promote business confidence and demonstrate a level of commitment to consumer protections and operational integrity without imposing obligations that are overly onerous that they drive local operators out of the market.
At a minimum, the Committee recommended that a DCE market should include requirements regarding capital adequacy, auditing requirements and responsible person tests. Further, these requirements would be scalable with business size, so that obligations are not overly onerous on new operators.
2. Establish a custody or depository regime with minimum standards for digital assets.
While the Committee recognised the importance of depository and custodial functions through on-platform wallets, the Committee also noted two relevant issues; previous example of prominent DCEs with cybersecurity vulnerabilities, and the current limited consumer protections available for users of custody services provided for crypto assets.
Australia has a well-established and large custodial services market with respect to traditional and physical assets, however custody arrangements for crypto assets present their own unique risks – such as controlling the vulnerability of private wallet keys, as this depends on their method of storage, whether online, offline or on paper. Therefore, a recommendation was made that a new regulatory framework be introduced for custody arrangements for crypto assets.
The Committee expressed the view that Australia is well placed to leverage its experience in existing traditional custodial services to become a leading jurisdiction in the emerging market for digital asset custody arrangements.
3. Undertake a token mapping exercise to determine the best way digital assets ought to be categorised to enable a more tailored regulatory framework.
To build a regulatory framework to appropriately address crypto assets, regulators have recognised the need to develop an understanding and articulation of the different types of digital assets.
Currently, only a limited number of crypto assets being developed or traded in Australia meet the definition of a financial product or financial service within the meaning of these terms under the Corporations Act. This does not mean that such assets are not subject to ASIC’s regulation.
To address this regulatory uncertainty, additional work is required to clarify and adopt definitions and regulations that better reflect the reality of the crypto asset market. As a first step, the Committee recommended there be a government-led token mapping exercise, taking into consideration approaches in other jurisdictions to the regulation of crypto assets. This would lead to a clear typology of digital assets that is flexible enough to account for changing crypto asset technologies, and could continue to be refined to account for future developments.
4. Recognise Decentralised Autonomous Organisation as a company structure.
The last few years have seen a major uptake of Decentralised Finance (DeFi) applications. DeFi protocols seek to replicate or supersede traditional financial services by utilising a decentralised structure that removes the need for intermediaries and centralised control. Many DeFi protocols are now set up with a decentralised ownership structure, using a model known as a Decentralised Autonomous Organisation (DAO). A DAO is a new category of organisation that operates on a decentralised blockchain structure, whose operations are pre-determined in open-source code and enforced through smart contracts.
As DAOs do not currently fall within Australia’s existing company structures, they are not recognised as entitles which have a separate legal personality or limited liability.
The Committee’s view is that a new company structure should be established to provide DAOs with a separate legal identity, and DAO token holders with limited liability. It is envisioned that such an approach would attract DAO innovation to Australia. As a starting point in drafting new laws governing DAOs, the Committee suggested that reference be made to the Coalition of Automated Legal Applications model law for DAOs, together with the approach taken by the U.S. state of Wyoming.
5. Make AML/CTF regulations fit for digital assets and consider the Financial Action Task Force’s (FATF) “Travel Rule”.
The FATF’s “Travel Rule”, introduced in 2019, requires financial institutions to pass on customer and transaction information to the receiving financial institution. This rule is counter to the decentralised and generally anonymous and private nature of digital assets. Some industry participants have expressed concern that an overly strict implementation of the Travel Rule could significantly curtail the digital assets industry in Australia.
The Committee therefore suggested that AML/CTF regulations should be clarified to ensure that they are fit-for-purpose for DCEs and other crypto asset businesses to strike a balance between managing risks and not imposing costs that would undermine legitimate digital asset businesses.
6. Amend the Capital Gains Tax (CGT) regime so that a CGT event only occurs when there is a genuine capital gain or loss.
The application of Australia’s present tax laws is not always clear. For example, CGT may be triggered at various times when a crypto asset interacts with protocols where it is swapped, burned, access or staked where there has been no material change in ownership.
The Committee recommended that CGT rules are amended so that digital asset transactions only result in a CGT event when there’s a genuine and clearly defined capital gain or loss. It is recognised that this may require creating new CGT assets classes and events in the tax legislation. Additionally, the Committee recommended that the Australian Tax Office (ATO) update its guidance regularly (every six months) to keep up with the pace of innovation.
7. Businesses who conduct digital asset “mining” or similar activities receive a company tax discount if they source their own renewable energy for their chosen activity.
Crypto asset “mining” is the process that cryptocurrencies use to generate new coins and verify new transactions. Mining is a very energy intensive activity as it requires a lot of computing power; as a result, a large amount of greenhouse gases are emitted.
In considering Australia’s greenhouse emissions target, the Committee has recommended that companies engaging in crypto asset mining ought to be incentivised to pursue renewable sources of energy, such as through a tax discount.
8. Treasury to conduct a policy review into the viability of a retail Australian Central Bank Digital Currency (CBDC).
There has been considerable research into CBDCs around the world. For example, the People’s Bank of China has been testing a retail “digital yuan”. The number of jurisdictions around the world issuing CBDCs are likely to increase in coming years. The Committee was of the view that Australia should continue actively investigating the possibility of a CDBC to keep pace with global developments. The Reserve Bank of Australia is currently planning to trial a digital currency in a limited scale pilot scheme.
How we can help
With the more frequent exchange of digital currency across markets and companies, this raises the concern of associated privacy issues and money laundering risks. To assist your organisation with ensuring you are adequately prepared for the increased use of digital currency, Hall Advisory provides the following services:
Assistance with applying for Digital Currency Exchange licensing,
Establishing AML/CTF frameworks, including setting up the structure and processes for managing money-laundering and terrorism financing risks
Independent reviews of Anti-Money Laundering and Counter-Terrorism Financing (AML/CTF) programs,
AML/CTF Compliance Officer outsourced services, and
AFSL services including registrations, applications and independent reviews of AFSL representatives.
To find out more about the services we offer, contact us today for a confidential, no-obligation consultation.