The cryptocurrency reality & challenge

Cryptocurrency is a relatively new phenomenon. It emerged in 2009. At the time of its creation, nobody expected that in a short span of time it would become a new financial reality. In 2021, the size of the crypto market was estimated around US$ 3 trillion.

During the last decade under this phenomenon, various coins were introduced, and this sector continued to challenge the orthodox approach related to finance. Highly-embedded in technology, it has a global reach having potential of reducing reliance on financial institutions and their products such as credit cards.

Cryptocurrency is a reality, though largely unregulated. It is growing at an alarming pace. Claiming increasing space around the globe, its growth without proper regulation, is inviting a lot of risks and threats of being abused by terrorists, money launderers, ransomware creators, and other criminals. It is, therefore, the collective responsibility of each jurisdiction, firm, and law enforcement agency to establish and implement proper controls to curtail misuse of this industry.

The potential threat related to this sector will remain unless proper regulations are framed and enforced as rightly observed by Federal Minister of Science and Technology, Senator Shibli Faraz, in a statement on January 18, 2022.

The second 12-Month Review of ‘Revised Standards on Virtual Assets (VAs) and Virtual Assets Service Providers (VASPs)’, issued by Financial Action Task Force (FATF), appreciates the fact that many jurisdictions and the VASPs are making progress in implementing these revised standards.

However, their implementation is still far from being satisfactory. The second Review further states that in April 2021, 128 jurisdictions (38 FATF members and 90 members of FATF-Style Regional Bodies (FSRBs)) advised on their progress in implementing the Revised FATF Standards.

However, 58 jurisdictions (28 FATF members and 30 FSRB members) reported that they had introduced necessary legislation to implement the revised FATF Standards whereas 52 of these jurisdictions advised that they had a regulatory regime permitting VASPs, while 6 of these jurisdictions advised that they had prohibited VASPs. The other 70 jurisdictions (10 FATF members and 60 FSRB members) have not yet introduced the revised standards in their national law.

Keeping in view these standards, many jurisdictions are trying to regularize this sector. As reported by the US National Conference of State Legislature in their publication that 33 states including Puerto Rico have pending legislation in the 2021 legislative session whereas 17 states have enacted legislation or adopted resolution. Similarly, in other jurisdictions such as European Union Commission, proposals have also been finalized to introduce legislation for the regulation of cryptocurrency.

Canada treats this industry as a money service business and requires that cryptocurrency exchange should be registered with the Financial Transactions and Reports Analysis Centre of Canada (FINTRAC). Australia charges capital gains tax on cryptocurrency transactions. Other jurisdictions are trying to regularize the VAs and VASPs as well.

This fast-growing industry is providing opportunities for the people to generate income through an alternative source to improve their living standards which, on the other hand, is helping governments across the globe to enhance their revenues by taxing these transactions to fund their development initiatives.

One such recent example includes the bill for infrastructure improvement moved in the Senate of United States envisioning raising US$ one trillion over the next eight years. The bill contains provision for imposing regulatory requirements for cryptocurrency brokers.

It is expected that this initiative will help Internal Revenue Service (IRS) to add US$ 28 billion in tax revenue over the next 10 years. No such initiative is even being considered by our policymakers in Ministry of Finance or those sitting at the helm of Federal Board of Revenue (FBR).

As mentioned in the press and elsewhere, the institutions in Pakistan are still confused about deciding the future of this fast-growing industry. Sindh High Court took up the issue of regularization of the cryptocurrency and formed a committee.

It is reported that the committee headed by Sima Kamil, Deputy Governor of State Bank of Pakistan, submitted its report, suggesting that the risks of cryptocurrency are greater and allowing its use may impact our precious foreign exchange. She has reportedly claimed that it would facilitate criminals in moving their illicit funds from the country.

The recommendations of the report suggest that members, including the chairperson of the commission, are not aware of the facts related to this sector. From the reasons mentioned in the report, it appears that they are not serious in regulating this sector, otherwise the concerns highlighted in the report could have been addressed easily. It is interesting to note that approximately 9 million people in Pakistan are connected with cryptocurrency.

The global Crypto Adoption Index ranked us at number three after Vietnam and India. Moreover, Federation of Pakistan Chambers of Commerce, and Industry (FPCCI), in its research report cited in Business Recorder of December 23, 2021, has revealed that Pakistan’s cryptocurrency is worth $20 billion and urged the government to frame a comprehensive policy to regulate this sector.

The recommendations of the committee under SBP, if implemented without public debate and taking input from all stakeholders, will not only close this avenue for the people to explore a new source to meet their financial needs and upscale their living standards, but it will also close the door for the government to generate additional revenue by regulating the $20 billion industry—this figure though reported widely still needs official authentication.

We must realize that virtual assets are a reality now, and this sector is rapidly growing by each day. The FATF introduced revised standards to regulate VAs and VASPs to prevent the movement of illicit flow of funds by criminals. These standards are already followed by the various jurisdictions.

Moreover, FATF has also introduced updated guidance for a risk-based approach to virtual assets and virtual assets service providers guidance. This guidance clearly defines the VAs and VASPs, process to apply these standards.

The guidelines explain the risks and tools available for countries to address the money laundering and terrorist financing risks for the peer-to-peer transaction including licensing and registration of VASPs. Moreover, it also helps to implement travel rules as well as information sharing cooperation amongst VASP supervisors.

The implementation of the revised standards including the travel rule can address the concerns of the movement of illicit flow of funds. Moreover, all VASPs should maintain a compliance programme and should implement all the requirements of onboarding like performing ‘know your customer’ and customer due-diligence checks for those dealing in crypto, verifying their basic information such as their legal names, proof of residence, government-issued identity documents, etc. Pakistan already has an institution to regulate this sector.

We have explained the detailed procedure for regulating cryptocurrency in various articles highlighting that the licensing requirements can be met under the law by forming a company and further meeting the requirements of investment or security, trading companies as per the model compatible with the functions of our regulatory bodies.

Moreover, for taxation purposes, the government can tax their worldwide income up to a specific rate and can also implement capital gains tax and apply a withholding tax regime where the concerned platforms would be liable to collect and deposit the tax in the government exchequer.

We need to realize the importance of the fourth industrial revolution and role of technology. The approach of banning the operations of virtual assets and virtual asset service providers will impact the overall economy and will create unrest amongst investors.

In the light of directions by the Sindh High Court, the future of this industry must be handled professionally by the government and concerned regulator. In fact, the court may have formed another committee consisting of industry experts who could present a draft of a regulatory framework for cryptocurrency.

The committee could submit a proposed draft addressing concerns of the earlier committee headed by the Deputy Governor of State Bank of Pakistan regarding flight of foreign exchange as well as the exposure to illicit funds.

The proposed draft could also offer a roadmap for the implementation process including regulations for addressing licensing, mining, cross-border constraints, reporting, and succession related issues, while also devising a complete framework for addressing Anti-Money Laundering and Counter Financing of Terrorism (AML-CFT) related matters, taxation and reporting requirements, and training of the law enforcement agencies.

This step, on one hand, will save millions of people specifically unemployed youth for whom this is the only source of income to meet their needs and on the other, it would create sufficient revenue for the government to fund public welfare projects.

(Huzaima Bukhari & Dr. Ikramul Haq, lawyers and partners of Huzaima, Ikram & Ijaz, are Adjunct Faculty at Lahore University of Management Sciences (LUMS), members Advisory Board and Visiting Senior Fellows of Pakistan Institute of Development Economics (PIDE). Abdul Rauf Shakoori is a corporate lawyer based in the USA and an expert in ‘White Collar Crimes and Sanctions Compliance’. They have recently coauthored a book, Pakistan Tackling FATF: Challenges and Solutions)

Copyright Business Recorder, 2022