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Malta becomes first Blockchain Island following new Regulation

On 4 July 2018, Malta officially passed three bills into law which establishes it as one of the first countries to enact a regulatory framework for blockchain technologies and cryptocurrency. While other nations have decided to wait for a tried-and-tested legal framework to base their regulations on, Malta has pioneered legislation into the industry to make them the biggest name in blockchain and cryptocurrency technology. As shown by the new laws, this move has been made to make Malta a hotspot for the industry. It is a huge move from the small nation, earning it the title of the ‘World’s First Blockchain Island,’ and it is expected to have many repercussions in Malta and across the world.

A new age is dawning

Bitcoin, the world’s first cryptocurrency, found recognition among the general public in the second half of 2017 when its price ascended rapidly from close to $1000 to over $19,000. However, people have known of the cryptocurrency for a long time; and while some may not have bought into the ideology of a decentralised digital currency, experts saw the potential buried in Bitcoin’s foundations.

The blockchain, which is a public transaction ledger that is managed by a peer-to-peer network, records everything that happens in the Bitcoin network and stores the records in a way that cannot be copied or altered. It was built to stop the possibility of double-spending the cryptocurrency, and it also built unequivocal trust within the network without the need for a central authority. Blockchain technology may have first been used for Bitcoin, but its applications are far spreading beyond cryptocurrencies. It could allow the media industries to limit a single copy of a song or movie to a single purchaser, or be used in all forms of business in the form of Etherium’s self-executing contracts. If it is allowed to, blockchain technology could change the way that day-to-day activities are performed. But to do that, companies in the industry will need assurances.

Malta steps forth to inspire blockchain advances

Malta made history with the three bills that it enacted as the regulatory framework for cryptocurrency and blockchain technologies, becoming the first world jurisdiction to provide the industry with legal certainty. Other jurisdictions have passed laws on cryptocurrencies and blockchains, but Malta’s regulations are the most detailed and comprehensive, delivering true certainty. The EU member has been keen to innovate and govern online industries, with the Maltese Gaming Authority being one of the most trusted regulators in the online gaming industry. Now, Malta has become a regulated haven for companies in the industry.

The primary purposes of the three bills are three-fold: to provide legal certainty for the first time in the industry; to support the growth of the increasingly important industry; to guide the government on how to embrace blockchain and cryptocurrency technology and forge Malta into an industry hotspot.

Now in power and governing the industry’s actions in Malta are the Innovative Technology Arrangement and Services Act (ITAS), the Malta Digital Innovation Authority Act (MDIA), and the Virtual Financial Assets Act (VFA). Herein, blockchain technology is referred to as distributed ledger technology (DLT), while a cryptocurrency is termed as a DLT asset. The purposes of each bill are as follows:

  1. ITAS: Primarily concerns the establishment of exchanges and companies based within the cryptocurrency market. It details the registration and certification of DLTs and provides technological arrangements for companies.
  2. MDIA: This bill establishes the MDIA as the regulatory body and formalises the internal regulatory procedures for the industry. As the regulator, the MDIA is also tasked with providing legal certainty to potential DLT platform users.
  3. VFA: The third bill regulates initial coin offerings, forcing new companies seeking to raise capital through an ICO to publish detailed white papers and make their financial history public. The VFA also governs cryptocurrency exchanges and wallet providers.

The three bills have been brought in by Malta to allow a safe place for the industry to grow, but they also ensure that potential users are protected under the new laws. The new legislation prohibits market manipulation, insider trading, and misleading white papers. ICOs in the industry have been accused of such foul play in the past, so Malta has decided to prohibit it without question. A person found guilty of such offences can face: a fine of up to $15,000,000 or three-times the losses avoided or profits made due to committing the offence, whichever is greater; incarceration for a term of up to six years; or suffer imprisonment and a fine. These staunch punishments will help Malta to legitimise the industry while also nurturing it as it grows to meet its immense potential.

The impact on Malta and the rest of the world

The desire to create the bills first was to help present Malta as a blockchain hotspot: the nation is already bearing the fruits of its bravery. Binance, the largest cryptocurrency exchange in the world, has already opened up an office in Malta, and OKEx has also followed suit. The Maltese government has investigated various ways to implement blockchain technology into public services, while the MGA sees the technology as a way to regulate online gaming services looking to accept cryptocurrency payments. They also plan to explore its applications alongside games, as it could provide transparency by proving the fairness of games via operators’ use of DLT.

Malta’s new regulations could also work as the much-desired framework for legislation in other nations. In the USA, investors have encountered frustration when trying to invest in certain ICOs, due to government accreditation being required for ICOs that offer securities. Malta’s VFA can assist with this issue as The Financial Instrument Test within the VFA details a three-step method to decipher whether an ICO’s asset could be deemed a virtual token.

Malta has opened as the world’s first regulated jurisdiction for blockchain and cryptocurrency technology. The favourable and clear-cut legislation will attract many of the biggest names in the industry to the island nation which will, in turn, provide a haven for the potentially world-changing industry to develop.

The lack of legal action has created uncertainty

Blockchain is being hailed as the greatest invention since the internet. Despite this, there is a great deal of variance in the regulation of the technology across the world. In the United States of America, blockchain technology has been mentioned as potentially being able to change how security is upheld during transactions online. Despite this, the US federal government has left the states to their own devices for regulating blockchain technology, which has resulted in at least eight states working on bills to accept or promote the use of the blockchain technology or the cryptocurrency Bitcoin, as of 2017.

In Europe, there is a more positive, active, and welcoming approach being taken to regulating blockchains and cryptocurrencies. Earlier in 2018, the European Commission revealed its planned vehicle to exchange expertise for the launch of blockchain applications across the European Union, known as the European Blockchain Partnership.

The issues that many jurisdictions have encountered when seeking to regulate the industry are defining the uses of blockchain, understanding what cryptocurrencies and blockchains are, and the willingness to commit and give the technology a stamp of approval. The industry has also come under scrutiny concerning the legality of cryptocurrencies. Some have disputed that cryptocurrency does not constitute legal tender, which brings about a lot of uncertainty in many areas of the world for the companies.

In research committed by Malta, one of the main concerns brought up by those in the industry was the legal uncertainty in many jurisdictions and the fear that their activities could be deemed unlawful at any time. The serious operators sought legal certainty above all else.

The Technicalities of DLT Sandbox Framework

The nation of Malta has led the way with its blockchain regulations and has encouraged its other major authorities to embrace the technology. The Malta Gaming Authority is a leading regulator of online and landbased gambling and has recently published its guidelines to move towards accepting virtual financial assets and distributed ledger technology within the gaming industry.

The Malta Gaming Authority announced in March 2018 that they would be creating methods of welcoming distributed ledger technology and cryptocurrencies into the gaming industry. They announced that a licensing system would be established alongside methods of using wallets of digital currency at gaming websites and a way of calculating exchange rates. It was at this time that the Malta Gaming Authority announced their plans to create a sandbox testing environment in which developers could test their games to see if they are in line with the upcoming regulations of the Malta Gaming Authority.

In October 2018, the Malta Gaming Authority released its guidelines for the framework that they had created to assist the budding technology in the gaming industry.

The Malta Gaming Authority releases its sandbox framework

The announcement detailed the two phases of the framework. Phase one is set to commence on the 1st of January 2019, at which point the Malta Gaming Authority will be accepting applications from bodies within the gaming industry looking to allow the use of virtual financial assets and virtual tokens as a means of payment. In phase two, their framework will be extended to allow for applications from those looking to use innovative technology arrangements, such as distributed ledger technology, within the key technical equipment of licensees: this is to coincide with further developments made by the established Malta Digital Innovation Authority. The Malta Gaming Authority is expecting the sandbox framework to continue until October 2019, but the paper is to be considered as a live document so that the regulatory requirements initially envisioned can be changed to adapt to technological and regulatory developments if necessary.

Even if an applicant fully complies with the Maltese blockchain legislation, they must still obtain a license from the MFSA before being granted access to the sandbox framework. Furthermore, applicants can apply for the inclusion of their testnet within the sandbox framework should their live environment go live within the three months following their approval by the Malta Gaming Authority.

The Malta Gaming Authority have established criteria as to how to define virtual assets and the steps required to use assets from distributed ledger technology. Prior to the involvement of the Malta Gaming Authority, an operator shall need to undergo a Financial Instrument Test that is issued by the Malta Financial Services Authority to be able to determine the nature of the distributed ledger technology asset, be it a virtual financial asset or a virtual token. Once this has been established, the operator shall submit the Malta Financial Service Authority’s findings with other appropriate documentation to the Malta Gaming Authority as a stage of the application process to be approved for the sandbox.

Regulating the use of virtual financial assets

If the asset is deemed to be a virtual financial asset, it adheres to established statutes of Maltese law. Operators can then use virtual financial assets that are overseen by the Malta Financial Services Authority in accordance with the Virtual Financial Assets Act. Those deemed to be financial instruments, per the Investment Services Act, or electronic money, per the Financial Institutions Act, can only be accepted as a method of payment if they are specifically approved by the Malta Gaming Authority, which shall be decided on a case-by-case basis at the Authority’s discretion.

When users sign-up to gaming websites with the intent to use virtual financial assets, only wallet addresses that are specifically tied to the individual will be permitted within the gaming ecosystem. Once the wallet has been recognised, for a deposit of virtual financial assets to be successful, the operator must verify the individual’s details and their wallet. Once verification is complete, players receive their gaming funds. Withdrawals can only be performed to verified wallets, and if a pending transaction does not match the player’s verified wallet address, funds will be returned to their point of origin or shall be frozen.

The operator must clearly identify and forewarn all players to withdrawal and deposit transaction fees should these exist on their platform. Within the operator’s ecosystem, virtual financial assets and fiat currencies shall be treated as separate entities, with an exchange between the two not permitted. For the sandbox framework, the exchange rate applied shall adhere to that of the virtual financial asset exchange declared to the Malta Gaming Authority by the operator. The exchange rate shall be taken for the virtual financial assets permitted against the Euro (€) at the time of 12:00 Central European Time on the last day of the reporting month with the taken exchange rate unable to change throughout that same reporting month. However, exchange rates can change from reporting month to reporting month. Operators shall enforce a maximum deposit to the value of €1000 in virtual financial assets per month.

Regulating the use of virtual tokens

The use of virtual tokens shall also be decided on a case-by-case basis by the Malta Gaming Authority: a decision which is guided by their distributed ledger technology economics criteria as well as an evaluation of token’s technology, the company’s structure, human resources, market applications, and security. Registered players can acquire virtual tokens from the operator on the operator’s platform for use on the platform. Virtual tokens can purchased with the use of fiat money as long as withdrawals following the use of the virtual tokens can also be made in fiat currency at the same rate of exchange as they were initially acquired.

Regulating the use of innovative technology arrangements

During the operation of the sandbox framework, the Malta Gaming Authority shall be accepting games and components of games that are fully or partially hosted in a distributed ledger environment, but these technologies shall also be subject to an audit. Other essential components hosted on distributed ledger technology will also be accepted if the Malta Gaming Authority is satisfied by the technology’s compliance with regulation and is successful in an audit.

Approval from the Malta Gaming Authority and inclusion within the sandbox framework is required of any operator seeking to make use of innovative technology arrangements as a part of its key equipment, and each element of innovative technology arrangements shall be audited by registered auditors of the Malta Digital Innovation Authority. The technology is only accepted if the audit report concludes with a positive outcome and the Malta Gaming Authority is satisfied that its regulatory requirements will be adhered to by the operator.

Smart contracts will only be permitted if: the smart contract’s code is reviewed by an audit; necessary amendments are made following the results of the audit; necessary safeguards are put in place to protect the transferred assets; revocation of a smart contract can occur should a flaw generated in the code be discovered; and wallet verification is part of the player’s identity. The main focus of the Malta Gaming Authority, with regards to smart contracts, is where the funds placed in escrow during a contract are held by the smart contract.

According to the Malta Gaming Authority’s Guidelines on Technical Infrastructure Hosting Gaming and Control systems, hosting architecture must be located within the nation of Malta, a European Union member state, or a member of the European Economic Area to ensure that the same principles are upheld, which would seemingly exclude the use of public distributed ledger technology platforms. But applications to the sandbox framework using such technology will not be scrutinised for not abiding by these guidelines. To gain a license, however, the operator of this technology will need to establish a node in Malta to adhere to requirements.

Once approved by the Malta Gaming Authority, the licensee will be rewarded with a dynamic seal, acknowledging that they are a participant of the sandbox framework.