Back to Index of Cryptoasset Regulations

The United Kingdom has yet to introduce legislation to regulate the use of cryptocurrencies, choosing to adopt a wait-and-see approach.  The UK’s financial regulators have cautioned individuals about the risks posed by purchasing cryptocurrencies and assets, and has proposed consulting on legislation to prohibit the purchase of such assets by individuals.  A cryptoasset taskforce has been appointed, and issued its first report in late 2018.  The report provided some clarity over the treatment of cryptoassets, and this was followed up by an advisory from HM Revenue & Customs over the tax treatment of cryptoassets for individuals.  In January 2019 the Financial Conduct Authority (FCA) also issued guidance over the regulatory regime of cryptoassets and announced that HM Treasury is planning to issue a consultation on legislation that would expand its regulatory authority to cover cryptoassets. 

I. Introduction

The United Kingdom (UK) has yet to introduce legislation to regulate the use of cryptocurrency and has adopted a cautious wait-and-see approach.  The Bank of England stated it does not consider cryptocurrencies to be money as they are “too volatile to be a good store of value, they are not widely-accepted as means of exchange, and they are not used as a unit of account.”[1]  It has further stated that it believes the current generation of cryptoassets show little evidence of delivering any kind of benefits to the financial services and other sectors, but given the rapidly developing market this may change in the future.[2]  

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II. Consumer Protection

Financials services are regulated in the UK by the Financial Conduct Authority (FCA), whose regulations aim to “protect consumers from harm, protect and enhance the integrity of the UK’s financial services sector, and promote effective competition in the interest of consumers.”[3]  The FCA is currently consulting on “[g]uidance for cryptoassets in order to provide regulatory clarity for market participants carrying on activities in this space”[4] to help firms determine whether or not a digital asset falls within the existing regulatory framework.  In the consultation paper, the FCA noted that HM Treasury will also conduct a consultation process later in 2019 to consider bringing legislative changes to extend the FCA’s authority to cover cryptoassets.[5]

The Bank of England is responsible for ensuring “the safety and soundness of firms (through the PRA [Prudential Regulation Authority]) and to remove or reduce systemic risks that could pose a threat to financial stability (through the Financial Policy Committee and the Bank’s supervision of Financial Market Infrastructures).”[6]  

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III. Regulation of Cryptoassets

Whether existing financial regulations apply to cryptocurrencies is dependent upon what the cryptocurrency is being used for, and must be determined on a case-by-case basis.  Given the complexity and uncertainty surrounding these determinations, a cryptoasset taskforce was established in March 2018 to “consider[] the policy and regulatory implications of distributed ledger technology (DLT), and cryptoassets.”[7]

The cryptoasset taskforce set out a table with common uses of cryptocurrency and whether or not the use falls within what is known as the current “regulatory perimeter.”  The taskforce identified three different types of cryptocurrencies—exchange tokens, utility tokens, and security tokens—and considered that cryptoassets are used in three different ways:

1. As a means of exchange, functioning as a decentralised tool to enable the buying and selling of goods and services, or to facilitate regulated payment services.
2. For investment, with firms and consumers gaining direct exposure by holding and trading cryptoassets, or indirect exposure by holding and trading financial instruments that reference cryptoassets.
3. To support capital raising and/or the creation of decentralised networks through Initial Coin Offerings (ICOs).

These purposes are not mutually independent, and the cryptocurrency may change during the course of its life.[8]

The cryptoasset taskforce determined that cryptocurrencies used as a means of exchange may fall within the regulatory perimeter under the Payment Services Regulations 2017 (PSR)[9] if the cryptocurrency is considered a fiat fund, or falls within the definition of e-money as, for example, when it is structured in a way that the asset is “centrally issued, and accepted by third parties as a means of exchange.”[10]  According to the report from the taskforce, the use of cryptocurrencies to facilitate regulated payment services, such as an intermediary in a cross-border transaction, and indirect investment from financial instruments that reference cryptoassets, would be regulated as a money remittances under the PSR.[11] Investments directly into cryptoassets only fall within the regulatory perimeter if the asset is a security token or the investment is made by a regulated investment vehicle.  Capital-raising tools that include cryptoassets fall within the perimeter if the asset is a security token.[12]

The policy paper notes that exchange tokens are intended to be used as a form of payment, and include bitcoins.  Exchange tokens use DLT and the value exists based on the use of it as a type of exchange or investment; utility tokens are tokens that can be redeemed for access to a specified product or service; and security tokens are those that are considered to be a “specified investment’” in the Financial Services and Markets Act (2000) (Regulated Activities) Order.[13]  These tokens provide certain rights, including ownership, repayment of a specified amount of money, or a share in future profits.[14]

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IV. Taxation

HM Revenue & Customs recently issued its first policy paper detailing the tax treatment of cryptoassets acquired, held, and sold by individuals, focusing on ensuring the tax treatment of the profits and losses of transactions involving these types of assets are clear.[15]   HM Revenue & Customs noted that the tax treatment of these tokens are dependent upon how they are used, rather than on the definition of the token.[16]  The taskforce developed a framework to take into account three potentially different uses for cryptoasset:

1. As a means of exchange, functioning as a decentralised tool to enable the buying and selling of goods and services, or to facilitate regulated payment services.
2. For investment, with firms and consumers gaining direct exposure by holding and trading cryptoassets, or indirect exposure by holding and trading financial instruments that reference cryptoassets.
3. To support capital raising and/or the creation of decentralised networks through Initial Coin Offerings (ICOs).[17]

HM Customs & Revenue does not consider that cryptoassets are currency or money.  Instead, it defines cryptoassets as

cryptographically secured digital representations of value or contractual rights that can be:  
· transferred
· stored
· traded electronically[.]
While all cryptoassets use some form of Distributed Ledger Technology (DLT) not all applications of DLT involve cryptoassets.[18]

HM Revenue & Customs has yet to issue information or guidance about the taxation of cryptocurrency for businesses.

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V. Anti-Money Laundering

The government is currently consulting on how it will bring cryptocurrencies within its anti-money laundering framework in accordance with the EU Fifth Anti-Money Laundering Directive,[19] and is

developing a robust regulatory response which will address these risks by going significantly beyond the requirements set out in the EU Fifth Anti-Money Laundering Directive (5MLD), providing one of the most comprehensive responses globally to the use of cryptoassets for illicit activity.[20]  

It has requested the FCA to be responsible for ensuring anti-money laundering obligations are fulfilled by companies, and the FCA has taken a progressive approach, issuing appropriate practices for dealing with cryptoassets and the measures banks should take to address the risk of financial crime using these assets.[21]  The FCA recommended banks take a risk-based approach to mitigate financial crime by

• developing staff knowledge and expertise on cryptoassets to help them identify the clients or activities which pose a high risk of financial crime[;]
• ensuring that existing financial crime frameworks adequately reflect the crypto related activities which the firm is involved in, and that they are capable of keeping pace with fast-moving developments[;]
• engaging with clients to understand the nature of their businesses and the risks they pose[;]
• carrying out due diligence on key individuals in the client business including consideration of any adverse intelligence[;]
• in relation to clients offering forms of crypto-exchange services, assessing the adequacy of those clients’ own due diligence arrangements; [and],
• for clients which are involved in ICOs, considering the issuance’s investor-base, organisers, the functionality of tokens (including intended use) and the jurisdiction.[22]

The government has stated that it will take a broader approach to money laundering and introduce legislation that surpasses the requirements of the Fifth Anti-Money Laundering Directive, including covering

• exchange services between different cryptoassets, to prevent anonymous ‘layering’ of funds to mask their origin
• platforms that facilitate peer-to-peer exchange of cryptoassets, which could enable anonymous transfers of funds between individuals
• cryptoasset ATMs, which could be used anonymously to purchase cryptoassets
• non-custodian wallet providers that function similarly to custodian wallet providers, which may otherwise facilitate the anonymous storage and transfer of cryptoassets. Consultation on this area will include considering issues of technological feasibility.[23]

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VI. Future of Cryptocurrency Regulation

As noted above, a cryptoasset taskforce was formed in March 2018 and issued a report in October 2018 on its findings.[24]  The taskforce took a particular interest in the future use and development of DLT technology.  It stated that DLT “has the potential to deliver significant benefits in financial services and other sectors in the future”[25] and that development of this technology will be supported by the UK financial authorities.  The taskforce also stated that

the most immediate priorities for the authorities are to mitigate the risks to consumers and market integrity, and prevent the use of cryptoassets for illicit activity. The authorities will also guard against threats to financial stability that could emerge in the future, and encourage responsible development of legitimate DLT and cryptoasset-related activity in the UK.[26]

The approach that the taskforce has taken

• maintains the UK’s international reputation as a safe and transparent place to do business in financial services[;]
• ensures high regulatory standards in financial markets[;]
• protects consumers[;]
• guards against threats to financial stability that could emerge in the future[; and]
• allows those innovators in the financial sector that play by the rules to thrive[.][27]

The cryptoasset taskforce proposed that it would consult further on introduction of a prohibition on selling “all derivatives referencing exchange tokens such as Bitcoin, including CFDs, futures, options and transferable securities”[28] to retail consumers due to the concerns of consumer protection and market integrity.

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VII. Conclusion

The government has taken a number of steps[29] to encourage the development of financial technology, including

• launching a Digital Strategy[30] and the cryptoasset taskforce;
• creating an Innovation Hub and Regulatory Sandbox to encourage and support innovation by the FCA and enable developers to test products and services in a real market environment;[31]
• investing £10 million (approximately US$13.2 million) in DLT projects;
• calling for information and publishing reports on cryptocurrency[32] and DLT technology;[33]
• considering the use of DLT for the FCA’s supervisory duties;[34] and
• establishing a FinTech hub to consider the policy implications of financial technology.

The recent reports and consultation papers demonstrates the UK’s intention to provide a regulatory environment to protect consumers and the UK’s reputation as a financial center, and to ensure that robust measures are in place against money laundering.

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Prepared by Clare Feikert-Ahalt
Senior Foreign Law Specialist
April 2019

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Last Updated: 12/30/2020