DealMakers - Annual 2021 (February 2022)
The SARB is walking a difficult path over exchange control for crypto assets
by Rob Hare
Bringing crypto assets and crypto asset service providers (CASPs) into the exchange control net will not be easy for the South African Reserve Bank (SARB). Some of the questions that need to be answered are as follows.
Why should crypto assets and CASPs be brought into the exchange control net?
This is part of a global shift towards the regulation of these assets, spearheaded by the Financial Action Task Force. The aim is to combat illicit cross-border financial flows and tax evasion, amongst other things, while securing the efficiency, integrity and inclusiveness of financial markets, and protecting consumers.
What are the authorities doing?
South African financial regulators, including the SARB, formed an Intergovernmental Fintech Working Group (IFWG) to consider fintech regulation, and within that, the Crypto Assets Regulatory Working Group to consider the regulation of crypto assets.
What difficulties do they face?
Trying to fit crypto assets into our exchange control regime raises an array of tricky issues.
The first difficulty is determining whether or not crypto assets are ‘capital’ in terms of the exchange control rules. This is key, as our exchange control regulations contain a rule that prohibits transactions where ‘capital’ or any ‘right to capital’ is ‘directly or indirectly exported’ from South Africa.
There have been conflicting statements on this question.
A position paper published in June 2021 recommends that the SARB asks the Minister of Finance to amend the abovementioned rule to include crypto assets in the definition of ‘capital’.
However, a ‘Frequently Asked Questions’ document states that the abovementioned rule already covers transactions where an individual buys crypto assets ‘in’ South Africa and uses them to ‘externalise any right to capital’.
But the regulations do not explicitly define ‘capital’, and there is very little South African case law on the definition of ‘capital’ for exchange control purposes.
How do crypto assets differ from traditional money?
The IFWG and the SARB have been clear that crypto assets are not ‘money’ in the legal tender sense of the word, even though they can, to some extent, be used in the same way as money.
There are also differences in how money and crypto assets are exchanged, circulated and stored. This is because of the ‘de-centralised’ nature of crypto assets: there is no government, bank or other ‘middleman’ that issues, stores or otherwise dictates how crypto assets are used.
These and other differences complicate attempts to squeeze crypto assets into the mould of capital as ‘cash’ or ‘traditional’ money.
One solution is to change the exchange control regulations. Is this on the cards?
Yes, it seems so, but this will not be a straightforward process.
The June 2021 position paper recommended that crypto assets be included in the definition of ‘capital’ for exchange control purposes. It is not clear whether this is suggested for the sake of clarification, or whether it implies that the current definition of ‘capital’ does not include crypto assets.
If it is necessary to expand the definition of capital to expressly include crypto assets, does this mean that, until the proposed change is implemented, it is not possible to contravene exchange controls through the transfer of crypto assets offshore?
Again, this position seems to contradict the statement in the ‘Frequently Asked Questions’ document that regulation 10(1)(c) covers transactions where an individual buys crypto assets ‘in’ South Africa and uses them to ‘externalise any right to capital’.
On the other hand, one could argue that crypto assets are implicitly included in the definition of ‘capital’ under the exchange control regulations. This is because one of the main purposes of South African exchange control is to ensure that all flows of capital in and out of the country are recorded through the SARB’s reporting system.
The June 2021 position paper acknowledges that crypto assets can be used to circumvent exchange controls and to facilitate the flow of capital out of South Africa, without reporting through the appropriate channels.
If the term ‘capital’ is interpreted with this purpose in mind, one could argue that crypto assets must be regarded as ‘capital’, otherwise the purpose of the regulations would be undermined.
What other difficulties does the SARB face in fitting crypto assets into the exchange control regime?
The SARB would have to enforce the requirement that no one may ‘export’ capital from South Africa without its prior permission. But, at what point in time is a crypto asset ‘exported’ from South Africa?
Bitcoin is held on a public key, on a public ledger or blockchain, which is ‘stored’ on thousands of computers around the world. If a Bitcoin is ‘sent’ from a local wallet to an ‘offshore’ wallet, it does not actually ‘move’ across borders. This transaction, in respect of that Bitcoin, is simply added to the public ledger or blockchain. Has the Bitcoin been exported? Possibly, but arguably not in the ‘ordinary’ sense of the word ‘exported’. And what if the holder of a wallet gives someone in another country access to that wallet? Has Bitcoin been ‘exported’?
The challenge for the SARB will be to pinpoint the points in time when crypto assets can be said to have been exported from South Africa. It faces a related challenge in developing reporting requirements around crypto assets.
All cross-border flows of capital are supposed to be processed through an authorised dealer (AD) and recorded on the SARB’s systems. But, if an item is exported from South Africa and payment is received in the form of crypto assets, there is no way to record, for exchange control purposes, that the payment of crypto assets has been received.
The IFWG position paper makes some recom-mendations to address such hurdles. For example, it says that the SARB should amend the manual for ADs, to enable them to facilitate the accurate reporting of cross-border crypto asset trades. It is clear that regulators face a complex task in deciding how to regulate digital assets.
Hare is a Consultant | Bowmans South Africa.