Enter the 5th AML Directive - Crypto goes through the wringer

It comes as no surprise that recent terrorist attacks have spurred financial regulators to combat the traffic of funds by terrorist groups. Many agree that one of the typical routes illicit transactions are being facilitated is by using virtual currencies

Perhaps the onset of the AMLD5 reacts to these risks through several key amendments, mostly triggered by Panama Papers, the number of rogue banks in Latvia, Estonia and Pilatus Bank (the latter being a disgraced Iranian financial institution in Malta). Hot on the heels of these scandals, there was major reconstruction of the 4th Directive resulting in the widening in scope. For the first time, it includes virtual currency exchange platforms (VCEPs) which function as electronic currency exchanges and custodian wallet providers (CWPs) effectively holding crypto currencies on behalf of third parties.

As “obliged entities”, VCEPs and CWPs will face the same regulatory requirements under the 5th Directive similar to banks and other financial institutions. These include onerous obligations to register with national anti-money laundering authorities, implement customer due diligence controls, regularly monitor virtual currency transactions, and promptly report suspicious activity to government entities. One hopes that these additional safeguards will make it easier to detect terrorist financing and expose money laundering. To further tighten the net, the revised directive proposes that all member states adhere to a structured plan. This plan aims to create central databases comprised of virtual currency users’ identities and wallet addresses as well as self-declaration forms submitted by virtual currency users. The EU’s extension of the regulatory perimeter is designed to prevent criminal groups from exploiting the anonymity of virtual currencybased transactions and to strengthen the means how to supervise users of virtual currencies. Ideally, the new directive tries not to hamper technical progress or development. The definition of crypto currencies is that of a “digital representation of value which is not issued or guaranteed by a central bank or a public authority and is not attached to a Fiat currency and does not possess a legal status of currency or money but is accepted by natural or legal persons as a means of exchange”.

At this stage, one may question how Malta, still in the early stages of regulating blockchain and virtual currencies, can succeed in attracting new players and yet crack the whip on regulation. The answer is not an easy one. Just recall that on 19th July, Malta received a reasoned opinion from the European Commission for failing to fully transpose the 4th Directive let alone embrace its bigger brother – the 5th Directive into national law. The fly in the ointment is the alleged lack of proper supervision of Pilatus Bank by the FIAU. The media is having a field day saying that FIAU is being accused of breaching EU laundering laws. In a statement, the government took note and said the Prevention of Money Laundering Act was to transpose all the provisions of the directive. In fact, this was done by December 2017 and it welcomed any suggestions to further improve the framework if considered appropriate. After strong lobbying by a number of MEPs in Brussels, the European Banking Author- ity agreed to commence a preliminary investigation of Pilatus Bank.

The Opposition party in Malta has stirred up a ruckus about the impending inspection of the Council of Europe watchdog Moneyval. Its last visit was six years ago when it commented that “Malta’s reporting of suspicious transactions was low for the size of the market”. It is important to comment on the European Central Bank’s warning about AMLD4 – saying it failed to effectively address recent trends in money laundering and terrorist financing. However, one is confident that with the transposition of new measures and a better-resourced FIAU/MFSA, the visit by Moneyval will not send any shivers down the spines of local regulators. Having said that, one cannot ignore the fact that recent virtual currencies regulations may create problems and challenge licensed operators to faithfully install all prescribed safeguards in time for the Moneyval visit.

One needs to reflect that the crypto sector in Malta is still sluggishly moving up the slippery nursery slopes and the nascent sector needs all the nurturing it deserves to succeed. One appreciates that there are no transition periods and/or days of grace so that starting from the date of transposition of 5AMLD into national laws, national authorities, and tax authorities will be authorized to demand information from virtual currency exchanges and wallets. This includes addresses and the identity of the owner of virtual currencies. This means that the anonymity currently pre- vailing in the crypto field will lessen because of AML rules. Will this be a bitter pill to swallow? Not so fast reply those who in the past have been victims of wallets or ICO’s that incredulously suffered gargantuan losses by devious hackers. On another aspect, one expects national governments to be quick to protect whistleblowers that expose scams. The new directive however still leaves a certain amount of debatable or grey areas. Really and truly, virtual currencies might be viewed as a new form of money; however, such definition does not provide all answers and does not address an anomaly that virtual currencies might not always operate as means of payment but rather function as assets, commodities or securities.

In the latter instance, they will be regulated under MIFID rules. Moving on, supporters of the 5th Directive boast that the new framework has stronger foundations and a better armoury. In fact, we come across four distinct bodies. The four bastions are made up of the Commission, the European Parliament, The Council of European Union, and last but not least, the Financial Action Task Force (FATF). In conclusion, we all wish to welcome the new framework which, if properly administered, will be able to identify covert acts of terrorist financing and/or money laundering. On a sombre note, one can reflect on a recent survey carried out by Thomson Reuters which estimates that the total aggregated loss of turnover from financial crime activities reaches around $1.45 trillion.