Is the EU Building a Database of Digital Currency Users?

Jacek Czarnecki is an attorney at Warsaw-based law firm Wardynski & Partners, where he specializes in areas including FinTech, digital currencies and blockchain.

In this opinion piece, Czarnecki discusses recently released documents suggesting the EU may consider registering digital currency users, arguing the proposal is more nuanced than it may have initially appeared to be.

The European Union's proposal to bring digital currency exchanges and custodial wallet providers under the scope of its anti-money laundering (AML) and countering terrorist financing (CTF) laws has many interesting and important aspects.

One of them is a proposed legal definition of "virtual currency", the first such to be introduced in EU law. As we've detailed previously, this has a potential to have a great impact on how laws will be applied to digital currency issues in all member states.

But, the definition is far from the only impactful implication.

Another controversial aspect of the proposal that has emerged is the alleged European Commission plan to build a database of digital currency users to force their compulsory registration.

As one might imagine, the suggestion does not sit well with the technology's typically privacy-conscious users.

Is this plan real?

The commission's proposal does give us an idea that it is considering different options, but it mainly describes bringing the exchanges and some wallet providers under AML and CTF rules.

Still, it also suggests more time is needed to consider others options, including a voluntary self-identification system that would track virtual currency users.

It further mentions that the possibility to allow users to self-declare to designated authorities on a voluntary basis should be assessed.

This has been reflected in the proposal to add a new paragraph to the provision that requires the commission to draw up a report on the implementation of the law (called 4AMLD) by June 2019.

The proposed content reads:

"The report shall be accompanied, if necessary, by appropriate proposals, including, where appropriate, with respect to virtual currencies, empowerments to set up and maintain a central database registering users' identities and wallet addresses accessible to FIUs, as well as self-declaration forms for the use of virtual currency users."

This sounds serious.

However, in order to fully assess the commission's intentions, one has to go into details and examine the documents accompanying the proposal.

The proposal itself does not give a full picture of what regulatory options were considered.

Fighting anonymity

Many important details follow from the impact assessment.

One of the aims of the new law, for example, is to deal with the perceived lack of sufficient monitoring by the authorities of suspicious transactions made through virtual currencies. The commission is seeking solutions that would improve the detection of suspicious virtual currency transactions.

The main issue is that digital currency users are usually practically unidentifiable.

What is notable is that the commission explicitly stated that contacts with the digital currency industry indicated that a large part of the sector would welcome EU legislation in the field.

The commission came to a conclusion that reducing or lifting anonymity related to the use of digital currencies can be done through targeting three types of players: users, exchange platforms and custodial wallet providers.

Then, six options were developed:

Targeting users:

• Option A: Lift anonymity through the mandatory registration of users
• Option B: Reduce anonymity through the voluntary self-registration of users.

Targeting exchange platforms:

• Option C: Regulate exchange platforms under the 4AMLD
• Option D: Guard against anonymity through the regulation of virtual currency exchange platforms under the revised Directive on Payment Services (PSD2).

Targeting custodial wallet providers:

• Option E: Regulate custodial wallet providers under 4AMLD
• Option F: Regulate custodial wallet providers under PSD2.

Two options have been examined but discarded. The first one was a full prohibition of use of digital currencies in the EU, but it was considered detrimental for digital innovation and progress. The second was the regulation of miners, but the commission stated that it would generate enforcement problems and stifle innovation.

As we can already see, the options that were adopted were those that targeted exchange platforms. Option B was chosen as preferred, but will be further elaborated.

The possible implementation of option A in the future has been left open (as mentioned such a proposal can be included in the report due in June 2019). But, the 174-page long impact assessment is worth looking at and full of useful information, including assessment of effectiveness, costs and opportunities of all above options, as well as data about digital currency environment in the EU.

It also contains a lot of insight into the EU and its member countries' public policy preferences towards digital currency sector.

For example, all EU’s member states were consulted, and all but one supported option C and not option D, which would entail much heavier regulatory burdens.

Further action

What has been the result of these considerations?

Some media outlets are reporting in a somewhat panicky way that the EU is planning to introduce an obligatory register of digital currency users. Analysis of the commission’s proposal shows that this is not necessarily the case.

The commission wanted to address the perceived "anonymity problem" related to digital currency from three angles: exchanges, custodian wallets and users.

The first two have been dealt with by extending the EU's AML and CTF laws to cover the industry. As far as users are concerned, for the time being, the commission believes that a voluntary self-registration of users with relevant national authorities is the best option (details are to be assessed and revealed in the future).

The commission has foreseen that these conclusions can change over time.

This is why the report in June 2019 should take this issue into account. Potentially, a new recommendation can emerge that will mean a mandatory registration of digital currency users. It should be remembered, however, that there is a low probability that this will be considered before 2019.

As anyone following the industry knows, much can happen in the digital currency sector before then.

Database image via Shutterstock