As the DeFi industry exceeds growth forecasts, it has now significantly attracted more interest from financial institutions and regulatory bodies.
In October 2021, the Financial Action Task Force (FATF), an intergovernmental policymaking organization to tackle money laundering, released a new document updating their guidance for virtual assets and service providers. This updated document provides clarification for VASPs and additional compliance rules for DeFi and NFTs.
Although the DeFi industry is not considered a VASP under FATF standards, the updated guidance states if a developer or maintainer provides VASP services, they are considered a VASP.
The other focus areas from the guidance include:
However, this guidance is concerned with the parts of the crypto industry, introducing significant regulatory uncertainty. Therefore, it could considerably impact these industries, including stablecoins, NFTs, and decentralized finance (DeFi).
Let’s explore the how and why:
The FATF believes that stablecoins, like all other VASPs, are subject to its standards of regulatory oversight. Therefore, the guidance addresses mass adoption, focusing on specific design features that could increase AML risks, especially coins.
Drawing information from DeFi, the FATF argues decentralized governance does not exempt any investment vehicle or service provider from regulation, as anything related to human nature carries inherent risks to users, such as crime or fraud.
As for identifying and understanding stablecoins’ AML risks, the guidance also instructs VASPs to manage and mitigate these risks before implementing stablecoin products. They must do so because there’s a likelihood of losing any interest in those coins if they are found incompatible with regulatory compliance.
Finally, it suggests providers seek approval from the jurisdiction where their focus primarily lies in their region to be licensed as an authenticator (this enhances legitimacy).
Under the FATF definition, NFTs aren’t virtual assets while their creators don’t count as VASPs.
However, the FATF stresses regulators should focus on the NFT’s functionality and use cases rather than its marketing.
In particular, the body argues virtual assets may be considered securities if they are operated for payment purposes.
As there is no specific definition for NFT, it could apply to anyone purchasing a token to sell for profit later instead of those who buy tokens because of a connection with the NFT creator.
Countries can use these factors to impose stricter regulations when dealing with NFTs.
VASPs are set aside for anyone who controls or influences a DeFi protocol, and they are classified as such because these owners provide VASP services.
Ownership and control are different from providing services because there is always an ongoing business relationship between providers and users even when services are exercised through a smart contract or, in other cases, voting protocols.
In reality, however, most DeFi platforms have no required or specified VASPs, making it difficult for FATF to impose jurisdictions on any particular player within the ecosystem.
Despite regulatory recommendations by FATF to dismiss claims of decentralization, future-facing KYC and AML capabilities are central in FLUID’s design. This compliance enables clients to meet regulatory requirements quickly and safely, which helps regulators conduct their diligence.
In today’s environment, it’s both challenging and frustrating for exchanges and liquidity nodes owing to an unclear regulatory environment. Therefore, interoperability between such entities would contribute immensely towards a more transparent ecosystem in which digital assets thrive with minimal hindrance when interacting.
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