Analyzing Australia's Digital Asset Regulatory Proposal: What Trends Does It Reflect?
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Analyzing Australia's Digital Asset Regulatory Proposal: What Trends Does It Reflect?
Asset holding will be a key regulatory activity.
Navigating Web3 tides with focused insightsAuthors: Michele Levine & Jaime Lumsden
Translation: TaxDAO
Following the release of the "Proposed Regulatory Framework for Digital Asset Platforms" (the "Proposal") in October 2023, the Australian government is consulting on a new regulatory framework for digital asset service providers and has suggested regulating digital assets within the existing Australian Financial Services Licence (AFSL) regime.
The Proposal marks the next step toward establishing a robust and comprehensive regulatory framework for digital assets in Australia. The proposed framework would be the first of its kind in the country; however, several issues remain to be addressed. This article highlights key questions that should be raised during the consultation process. It is critical that the industry seizes this opportunity to identify concerns and provide guidance to Treasury on alternative solutions that support the Australian crypto industry, as there is no guarantee of further consultation prior to draft legislation being released.
Which activities will be regulated?
Custody of assets will be a core regulated activity. Any entity holding digital assets—including those supporting digital assets in cases where real-world assets are tokenized—will constitute a "digital asset platform" (DAF), which would become a new type of financial product under the Corporations Act 2001. Anyone operating a DAF will need to hold an AFSL with appropriate authorizations and comply with a set of tailored regulatory requirements.
In addition to custody, certain "financialization functions" related to digital assets (that are not themselves financial products) will also be regulated. These include digital asset trading, staking, asset tokenization, and crowdfunding. These financialization functions will also be subject to customized regulatory obligations.
There are currently no proposals to regulate non-financial digital assets directly. Any digital asset that qualifies as a financial product will continue to be regulated under the existing financial services regime.
What constitutes asset custody?
The Proposal introduces the concept of "de facto control" as the threshold for determining whether a person holds assets and thus becomes a DAF. We do not object to the use of "de facto control" per se and believe it is generally a sound standard for asset custody.
However, the concept of "asset custody" requires further clarification and definition, particularly given the diversity of business models in the market. For example, in a brokerage model, a broker may not provide wallets or hold assets on behalf of clients, but during brokerage transactions, they might temporarily hold tokens between exchanges and clients. Under current interpretation, this could trigger DAF regulation. We consider this inappropriate and believe alternative models can mitigate risks. One option could be implementing client asset rules (similar to client money rules) to provide safeguards around temporary custody—for instance, requiring all assets to be held in designated trust wallets, limiting holding periods (e.g., five days), and requiring customers to provide wallet addresses at the time of trade instruction to enable prompt transfer.
Decentralized autonomous organizations (DAOs) could also fall under the regulatory regime if they are not sufficiently decentralized and allow de facto control through transaction validation or governance proposals. This point warrants further discussion, as it may stifle innovation efforts in Australia and raise potential enforcement challenges. For instance, Australian innovators may be discouraged from launching DAOs domestically, as achieving full decentralization (e.g., having numerous unique nodes/validators across jurisdictions) may take time. Additionally, if individual liability risks exist for Australians participating in DAOs, participation incentives could diminish. We recommend that the industry—particularly DeFi and Web3 enterprises—consider these proposals carefully and highlight any concerns or potential solutions.
Is the low-value exemption appropriate?
The Proposal suggests that DAFs holding assets below certain thresholds may be exempt from AFSL requirements when:
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At no time does the total value of DAF rights held for any single client exceed AUD 1,500; and
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The total value of assets held by the DAF provider never exceeds AUD 5 million.
This exemption draws from the existing one for non-cash payment facilities. While we support the principle of exemption, we question whether the proposed thresholds are suitable for DAFs. The non-cash payment facility exemption applies to ongoing transactions—each transaction has a limit, and the aggregate of all active transactions is capped. Once a transaction clears, its allocated portion of the cap resets. This approach is less suitable for asset custody arrangements, which are static rather than transactional in nature.
Therefore, we believe individual account limits should not apply, and we question what the appropriate overall cap for a DAF should be. A better starting point might be the current and proposed limits for stored value facilities, which resemble token asset custody more closely, as both involve indefinite holding of value until instructions are received.
Another significant issue is how to value the total assets held by a DAF, especially since DAF-held assets may be illiquid or highly volatile. Providers of non-cash payment and stored value facilities can operate comfortably within their caps because the underlying assets (fiat currency) maintain stable values. In contrast, a DAF might inadvertently exceed its cap due to favorable market movements.
A more appropriate method might involve using a rolling average (e.g., over 30, 60, or 90 days) and/or allowing a grace period before breach penalties apply, providing a buffer for corrective action.
What licence authorizations will be required?
The Proposal does not yet specify particular authorizations, as these will be determined by the Australian Securities and Investments Commission (ASIC). However, we understand that DAF providers will require an AFSL, and anyone offering financial services related to DAFs will also need an AFSL. This is conceptually sound, but we believe certain amendments to the Corporations Act will be necessary to better accommodate DAFs.
For digital asset facility providers, we suggest introducing an authorization to "operate" a facility, analogous to the authorization required to register a managed investment scheme. Furthermore, we recommend defining specific transaction types to explicitly cover the proposed regulated financialization functions. Currently, the definition of financial product transactions is unlikely to encompass transactions executed via a DAF, so amendments would be needed to bring them within scope.
Additionally, the Proposal covers intermediaries facilitating transactions or advising on DAFs. Our understanding is that regulatory obligations will apply at the DAF level (not the digital asset level). Thus, intermediaries will have obligations when recommending a specific DAF for asset custody or one of its financialization functions, but not when recommending a particular token that is the subject of a transaction. Since token trading is one of the proposed regulated financialization functions (provided the transaction definition is updated as discussed earlier), any intermediate digital asset trades conducted on a DAF would also constitute financial services.
We believe it would be appropriate to follow the model used for insurance intermediaries, allowing intermediaries to act either as agents of the product issuer or the client.
Is the Net Tangible Assets (NTA) requirement effective?
The Proposal requires DAFs to hold net tangible assets (NTA) of AUD 5 million unless custody is outsourced. If custody is outsourced, the NTA requirement drops to 0.5% of custodied assets. This amount is considered sufficient to cover orderly wind-down costs, so it is unlikely to change unless evidence emerges showing that the cost of winding down crypto businesses is significantly higher or lower, justifying adjustment.
It remains unclear how the "value" of a DAF will be calculated. Presumably, the value of all tokens within the asset custody arrangement must be included, even if custody is outsourced. Therefore, the same valuation challenges highlighted in the context of the low-value exemption apply here—specifically, how to value assets that are illiquid or volatile.
Is the proposed outsourcing approach effective?
Under the current proposal, DAF providers who outsource custody to unlicensed offshore entities must still hold AUD 5 million in NTA. We believe this creates problems for both global and local businesses needing access to international custody solutions, especially given that Australia currently lacks a domestic digital asset custody market. We suggest adopting an approach similar to APRA’s outsourcing guidelines, allowing firms to use overseas custodians provided certain minimum safeguards are in place.
Moreover, the Proposal suggests that customers must contract directly with the custodian. This is highly unusual and does not reflect current outsourcing practices in the financial services industry. This requirement poses a major barrier to outsourced custody, as it removes any control a DAF has over its custodial provider. We suspect the intent is to protect customer assets in insolvency. However, better solutions exist, such as robust client asset rules (akin to client money rules), asset segregation and ring-fencing, and in some cases, client walkaway rights.
Platforms offering multiple digital asset facilities
Under the Proposal, each DAF can offer only one service—for example, custody—and each financialization function must be delivered through a separate DAF.
We find this approach unwieldy and inconsistent with the reality that DAFs hold digital assets and derive financialization functions from that custody. Many such functions naturally arise from asset holding.
We recommend that a DAF should be permitted to hold digital assets and offer token trading and staking functionality. However, we agree that each asset tokenization and crowdfunding project should constitute a separate DAF, complying individually with the proposed requirements.
The consultation paper also mentions multi-facility platforms potentially comprising DAFs provided by different facility providers. Beyond different entities within a corporate group offering specific functions, we are unaware of any current platforms operating this way. If this is intended, we question whether this represents merely an outsourcing arrangement or truly distinct facilities offered by separate entities. This is something the industry may wish to clarify or comment on.
Trading
Different market rules are proposed for non-financial-product digital assets. Industry stakeholders should raise any concerns about these rules and assess their suitability given how crypto markets operate. Specifically, what are the unique risks associated with crypto trading and markets? Do the proposed requirements adequately address those risks?
Additionally, there is a question of which market rules apply when a non-financial-product digital asset is exchanged for a financial-product digital asset subject to traditional market rules. This requires further consideration, especially as TradFi (traditional finance) converges with DeFi.
Asset Tokenization
Businesses wishing to tokenize assets will need to comply with AFSL requirements as a DAF, as they will be holding the underlying assets and performing the financialization function of asset tokenization. We believe it is appropriate for token issuers to operate their own DAF for their asset tokenization projects.
Once asset-backed tokens are issued, any platform facilitating trading or staking of those tokens will also become a DAF, requiring an AFSL and compliance with the proposed regulatory framework.
We believe all DAFs involved in the digital asset value chain should be subject to the proposed regulatory regime.
Crowdfunding
Any project seeking to raise funds through token issuance will be intermediated via a DAF and subject to multiple requirements. This approach mirrors the fundraising regime under Chapter 7 of the Corporations Act. However, the financialization function of fundraising does not facilitate direct fundraising akin to Chapter 6 offerings, which involve issuing or selling securities—activities that remain regulated as financial products.
This proposal may impact current industry practices for funding crypto projects and could drive such initiatives offshore. We recommend the industry consider this implication, raise anticipated issues, and propose alternative solutions that appropriately manage investor risk.
An alternative approach could allow projects to conduct direct fundraising via initial coin offerings (ICOs) without a DAF license, provided the project does not hold any tokens issued as part of the ICO (i.e., does not provide custodial wallets)—a structure analogous to the self-dealing exemption in fundraising. If a project does hold tokens issued during an ICO, then regulating it as a DAF and applying the proposed licensing and regulatory requirements would be justified.
If the self-dealing exemption is extended to ICOs as suggested, questions arise regarding whether there should be any caps on the total number or value of tokens issued or sold. Currently, the self-dealing exemption for securities assumes the fundraising is not a "public offer." Since ICOs are typically public, replicating the private offer requirement may be challenging. Hence, numerical or value-based limits may be more appropriate. Industry feedback on the feasibility of this option and suggested thresholds would be valuable.
Where ICOs may launch outside a DAF, it is important to consider whether mandatory disclosures should apply and what form they should take. For securities fundraising, a prospectus is generally required unless an exemption applies. For ICOs, requiring a simplified prospectus and basic disclosure document under an exemption regime would be appropriate, provided conditions are met. For example, disclosure documents might be waived if fundraising falls below a certain threshold or targets specific investors (e.g., wholesale, sophisticated, or professional clients). Similar exemptions already exist for securities and could serve as a useful reference.
We also believe it is worth considering whether any disclosures required for ICOs—whether made directly by the project or through a platform intermediary—should be subject to consistent disclosure standards. This would ensure uniformity in project financing and reduce the risk of regulatory arbitrage.
What happens next?
The Proposal is a pivotal step in the journey toward regulating the cryptocurrency industry. The industry must seize this moment to pause, reflect, and critically assess these proposals, raising any concerns or suggestions. There may be no further opportunity for input before draft legislation is introduced, and at that stage, raising fundamental structural issues may be too late.
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