The UAE has rapidly positioned itself as a key player in the global virtual assets market, setting a benchmark with its forward-thinking regulatory frameworks.
In this article, Akshata Namjoshi, Kabir Kuma, and Ahlam Faouzi from KARM Legal Consultants, the emerging technologies-focused law firm, provide an in-depth analysis of the UAE’s regulatory landscape for stablecoins.
Akshata Namjoshi, Kabir Kuma, and Ahlam Faouzi
The UAE has positioned itself at the forefront of the global virtual assets sector, becoming a pioneering jurisdiction in developing comprehensive regulations for virtual assets. This progressive approach culminated in the establishment of the world’s first virtual asset-specific regulator, the Dubai Virtual Assets Regulatory Authority (VARA).
Stablecoins are blockchain-based tokens pegged to fiat currencies or a basket of assets, designed to minimise volatility and serve as a reliable transfer of value within the virtual asset market. These tokens are designed to exhibit less volatility compared to other virtual assets, serving as a reliable transfer of value within the virtual asset market.
They offer a stable counterbalance to more volatile cryptocurrencies and are often used as a mechanism to liquidate virtual asset investments. Additionally, stablecoins are increasingly being explored for use in payments due to their stability and efficiency.
The UAE’s regulatory framework is robust and detailed, with key regulatory bodies such as the Financial Services Regulatory Authority (FSRA) in Abu Dhabi Global Market (ADGM), the Dubai Financial Services Authority (DFSA) in Dubai International Financial Centre (DIFC), and VARA, all implementing specific regulations governing virtual assets and stablecoins.
The Central Bank of the UAE (CBUAE) has recently released the Payment Token Services Regulation under Circular 2/2024 (Payment Token Services Regulation), establishing a comprehensive regulatory framework for payment tokens.
ADGM
ADGM was one of the first jurisdictions to introduce comprehensive regulations for virtual assets, positioning itself as a leader in the sector. The FSRA, ADGM’s regulatory arm, has established a detailed framework for regulating virtual asset service providers (VASPs) within the financial free zone. The FSRA’s position on stablecoins is articulated in their Guidance on the Regulation of Virtual Asset Activities in ADGM.
The FSRA of the UAE recognises three primary stabilisation mechanisms for stablecoins. First, there are fiat tokens where the issuer maintains reserves in fiat currency equivalent to the value of tokens issued. Second, diversification or basket tokens peg their value to a diverse portfolio of assets including virtual assets, commodities, fiat currencies, and other financial instruments. Third, algorithmic tokens manage their token supply through algorithms designed to stabilise value, resembling central bank monetary policy.
Presently, the FSRA exclusively permits fully backed 1:1 fiat tokens, necessitating each token to be backed by an equivalent amount of fiat currency. Compliance with regulatory requirements for financial services involving fiat tokens varies depending on the specific nature of the services or activities provided.
A unique characteristic of FSRA’s regulatory framework is the regulation and licensing of the issuance of fiat tokens. The FSRA treats fiat tokens akin to digital representations of money and as a mechanism for storing value. Therefore, the issuance of fiat tokens, for use in the virtual assets ecosystem and/or as a means of payment, is subject to a providing money services licence (issuance and selling of stored value).
Activities in relation to fiat token
The conduct of specific activities in relation to fiat tokens are subject to distinct licensing requirements. The FSRA has outlined several scenarios involving fiat tokens, providing specific regulatory approaches for each.
Custodians offering custody services for both virtual assets and fiat tokens must obtain a licence specifically for custody, including virtual assets. For custodians handling fiat currency and related fiat tokens exclusively, a custody licence is required with additional requirements for technology governance and reconciliation.
Licensed Multilateral Trading Facilities (MTFs) utilising their own fiat tokens as payment mechanisms within their platforms do not need an additional licence, provided tokens stay within the platform, subject to reconciliation requirements. MTFs using third-party issued fiat tokens must perform due diligence on the tokens, focusing on technology governance, reporting and reconciliation.
DIFC
VASPs in DIFC are regulated by the DFSA, which introduced its crypto token regime on 1 November 2022. Unlike the FSRA, the DFSA does not expressly permit the issuance of stablecoins but recognises fiat crypto tokens issued in other jurisdictions. Fiat crypto tokens have been defined as crypto tokens that stabilise its price or reduce volatility in its price by pegging it to a single fiat currency.
Activities in relation to fiat crypto tokens
Since fiat crypto tokens fall within the ambit of crypto tokens, the conduct of activities in relation to fiat crypto tokens is subject to the same licensing requirements as crypto tokens. The exact category of licence differs based on the activity conducted (for example, managing assets, dealing in investments as an agent or principal, providing custody, etc.).
With respect to providing money services, the DFSA has permitted the utilisation of fiat crypto tokens for the purposes of money transmission or executing a payment transaction. However, the use of fiat crypto tokens is restricted to facilitating the technology side of the business and supporting back-office operations. For example, a money services business may use fiat crypto tokens for internal settlements between branches.
The DFSA only permits financial services related to recognised crypto tokens. An application for recognition can be submitted by an existing licensee, an applicant, or the token issuer. For fiat crypto tokens, the DFSA has prescribed additional requirements for token recognition.
Recent amendments
Recent amendments to the DFSA’s criteria for recognising fiat crypto tokens, effective from 3 June 2024, have introduced greater flexibility by eliminating specific requirements on reserve asset proportions. Instead, emphasis has been placed on ensuring that that reserves are held in assets that are likely to maintain their value (including during periods of stress), highly liquid, appropriately diversified and carry minimal credit risk.
Further, the DFSA has revised the definition of fiat crypto tokens, now requiring them to be pegged to a single fiat currency only. This change was made to mitigate the increased risks associated with multi-currency pegs, based on market and regulatory experiences.
CBUAE – Payment Token Services Regulation
The Payment Token Services Regulation by CBUAE builds upon the Retail Payment Services & Card Schemes Regulation (RPSCS Regulation), which initially set the licensing framework for payment token services. The timing of this regulation is significant as it comes when VASPs are seeking jurisdictions with clear regulatory frameworks that can address their specific services and activities. The Regulation’s introduction coincides with the EU’s MiCA regulations on stablecoins, which also recently came into effect, requiring licensing and setting a regulatory framework for stablecoin issuers within the EU. Thus, by issuing this Regulation, the UAE positions itself as a leading jurisdiction in the crypto and virtual assets sector.
Under the new framework, a ‘Payment Token’ is defined as a Virtual Asset (VA) that aims to maintain a stable value by referencing the same fiat currency it is denominated in, or another payment token denominated in the same fiat currency.
There are two primary categories of Payment Tokens:
‘Dirham Payment Tokens’, which reference the value of the AED, and ‘Foreign Payment Tokens’, such as USDT and USDC, which reference the USD. ‘Payment Token Services’ are categorised into three main activities: Payment Token Issuance (Issuing), Payment Token Conversion (Conversion), and Payment Token Custody and Transfer (Custody and Transfer). Individuals or entities looking to provide or promote any of these services within the UAE must obtain a licence from the CBUAE.
Foreign companies, including those registered in financial free zones, can apply for registration to issue Foreign Payment Tokens. Onshore licensed VASPs licensed by the Securities and Commodities Authority (SCA) or VARA can apply for a Non-Objection Registration (NOR) to provide Payment Token Services. For instance, a licensed VA exchange platform operator can apply for an NOR to perform Conversion, and a licensed VA custody service provider can apply for an NOR to perform Custody and Transfer, albeit limited to foreign payment tokens.
Additional considerations include that Payment Token issuers must not offer interest or benefits related to the duration a customer holds a Payment Token. The CBUAE may also impose restrictions on the volume or value of Payment Tokens that can be traded or the total number of customers a licensee or registered entity can onboard.
Moreover, the CBUAE may designate certain VAs as Payment Tokens subject to specific restrictions. In terms of merchant payments, UAE merchants can only accept Dirham Payment Tokens from licensed issuers, while Foreign Payment Tokens from registered issuers can only be accepted for purchasing VA and VA derivatives.
Conclusion
The UAE’s robust and progressive stance on stablecoin regulation underscores its global leadership in the virtual assets industry. Through detailed frameworks in ADGM, DIFC, VARA, and the CBUAE, the nation aims to bolster market confidence, promote investment liquidity, and foster digital payment innovation. It will be intriguing to observe how mixed regulatory oversight models by both VARA and CBUAE unfold in this dynamic landscape.
The post Stabilising The Crypto Frontier: UAE’s Groundbreaking Stablecoin Regulations appeared first on The Fintech Times.
