Bitcoin regulation: UK position and Osborne Clarke’s survey

Written on 1 May 2015

Bitcoin continues to attract governmental, regulatory and market attention. We look at recent developments around the virtual currency, and discuss a recent survey we compiled on accepting bitcoin as a payment method in various European jurisdictions.

Recent UK developments 

There have been some recent developments in the UK approach to the regulation of digital currencies:

Extending AML regulations to Bitcoin exchanges

In the 2015 budget delivered on 18 March 2015, the government announced its intention to apply anti-money laundering regulation to digital exchanges in the UK. The government is committing to a full consultation on the proposed regulatory approach early in the next Parliament. The consultation will seek views and evidence on key questions, including how anti-money laundering regulation should be applied to the digital currencies sector, the scope of the regulatory perimeter and the identity of the regulator. 

The budget proposals follow the conclusion of HM Treasury’s consultation on digital currencies. In the consultation response document the government notes 

the nascent state of the technology and the surrounding industry, and recognises that users of digital currencies are potentially exposed to a number of risks. In response, the government considers that a framework for best practice standards for consumer protection is the right step to take at this stage, in order to address the risks identified but without imposing a disproportionate regulatory burden on the industry. The government intends to work with BSI (British Standards Institution) and the digital currency industry to develop pioneering voluntary standards for consumer protection“. 

The proposed regulation of digital currency is coupled with the launch of a new research initiative, supported by a £10 million funding proposal, which will bring together research councils, Alan Turing Institute and Digital Catapult, with industry in order to address research opportunities and challenges for digital currency technology. The measures, if implemented, could help cement the UK’s position as Europe’s financial technology capital by recognising and legitimising bitcoin and other digital currencies. 

The government consultation on digital currencies recorded strong support across stakeholders for intervention to address the risk of criminal use and to help legitimate users and businesses. Most respondents focused on the need for ‘know your customer’ requirements to be applied to digital currency intermediaries. Most banks and payment scheme companies also recommended regulation, and highlighted the need for clear guidance on their obligations under anti-money laundering and counter terrorist financing rules. 

Questions that arise in relation to the source of funds is a different issue that we have identified as being of particular relevance to digital currency and will be of concern to any financial institution being asked to hold funds connected with or derived from bitcoin activity. A strong lead from the regulator, involving a clear statement or guidance addressing these concerns would be (or is perceived to be) very welcome. At the moment, the regulatory risk inherent in dealing with digital currencies is simply too great, such that the biggest obstacle facing bitcoin exchange entering the UK and European market is not the regulatory regime, but finding a willing banking partner. 

Bitcoin as ”digital content”? 

The Consumer Rights Act 2015 received Royal Assent on 26 March 2015. The Act consolidates existing consumer laws and introduces a new concept of “digital content“. 

Digital content” is defined in line with the 2011 EU Consumer Rights Directive as “data which are produced and supplied in digital form“. There have been suggestions that this definition could include bitcoin and other digital currencies, although the explanatory notes to the Act refer to “software, music, computer games and applications” as examples. The rules only apply to digital content supplied under certain contracts, including those paid for with digital currencies. Given the distinction between digital content and the express reference to the use of digital currencies to pay for said content, it seems unlikely that the legislative intention was to include bitcoin within the category of content for which consumer protection is provided. However the position is not beyond doubt.

Blockchain technology potential 

The Bank of England has also recently provided favourable commentary on the potential for digital currency in a Discussion Paper published in February 2015. The paper highlights the benefits of the distributed ledger technology that underpins digital currency payment systems (such as blockchain technology), which it says holds “considerable promise”. The Bank also raised the possibility of central banks issuing digital currencies and has committed to undertake research on this topic as part of its new research agenda. The potential for using blockchain technology more broadly in financial services has excited many, and attracted the attention of several Silicon Valley start-ups and giants. So watch this space! 

Recent multi-jurisdictional survey on bitcoin acceptance 

We recently undertook a survey for a client acting as merchant interested in understanding (at a high level) any impediments to accepting bitcoin as a payment method from customers, with such payments being processed through a third party bitcoin exchange. The survey considered the position in thirteen European jurisdictions, with Osborne Clarke International handling seven of these and local experts instructed in the other jurisdictions. 

Our findings included the following:

  • By accepting bitcoin as a payment method, a merchant would not itself become subject to any local banking, payment services, e-money/stored value or financial services or other regulatory regimes in any of the jurisdictions surveyed. Local counsel flagged up, however, that the bitcoin exchange itself may need to be regulated and advised that the merchant should seek appropriate contractual protections. Germany in particular highlighted that there was a risk that the merchant could be deemed to have assisted in the bitcoin exchange, committing a criminal offence where it does not have the relevant licences.
  • A couple of EU Member States highlighted that accepting only bitcoin could cause problems, for consumer protection and public policy reasons, respectively, and advised that other payment methods be offered by the merchant.
  • Bitcoin is not generally regulated (save in Germany), as it does not constitute money, funds or electronic money. In Germany, bitcoin is treated as a ‘unit of account’ and so constitutes a ‘financial instrument’ within the meaning of the German Banking Act, the German law implementing MiFID; trading in bitcoin is therefore a regulated activity. However, the mere use of bitcoin is not regulated.
  • Tax authorities in a handful of Member States (including the UK) have published official briefings or commentary on the tax treatment of bitcoin and other virtual currencies which may be relevant to the merchant’s decision to accept bitcoin.