The EU DLT Pilot Regime: key takeaways

The loosely unregulated realm of cryptocurrencies has long been the focus of regulatory attention globally. To regulate or not to regulate has been the question of many governing minds.

The expansion of crypto and collapses, such as BlockFi and FTX have increased the urgency for effective regulation. Increased regulatory scrutiny and supervision are known to address systematic failings in financial markets in other areas such as ESG and crypto is no different.

Whilst the likes of Markets in Crypto Assets regulation (MiCA) placed the European Union (EU) at the forefront of crypto, a more recent development known as the Distributed Ledger Technology (DLT) Pilot Regime takes the EU one step further as a crypto leader. The DLT Pilot Regime is part of the EU’s Digital Finance Package to support digital finance opportunities whilst decreasing risks.

What is the DLT Pilot Regime?

The European Commission’s stance on digital finance is very much based on increasing the EU’s competitiveness and innovation in financial markets.

A DLT refers to a digital system for recording the transaction of assets (e.g. Bitcoin) and the transaction details are recorded in multiple places at the same time. DLTs allow information to be stored in a secure and accurate manner, ensuring that the management of records is free from manipulation.

The EU’s MiCA included the regulation of DLT-based cryptoassets such as stablecoins. The DLT Pilot Regime, which was launched on 23 March 2023, seeks to allow firms to utilise DLT without the constraints of legislation and aims to develop trading and settlement for DLT financial instruments.

As part of the scheme, firms can apply to be exempt from certain requirements under the Markets in Financial Instruments Regulation (MiFIR), Markets in Financial Instruments Directive II (MiFID II), and/or Central Securities Depositories Regulation (CSDR).

A DLT is used by Multilateral Trading Facilities (MFTs) and Central Securities Depositaries (CSDs). The Regime permits MTFs and CSDs to be exempt from the regulatory obligations under MiFIR, MiFID II and CSDR. The European Securities and Markets Authority (ESMA) published guidance for firms to start preparing DLT applications on 15 December 2022, this included guidelines, forms and formats.

Who does the DLT Regime apply to

The DLT regulation outlines three categories of DLT market infrastructures. Namely, a DLT MTF, a DLT settlement system or a DLT trading and settlement system.

1. DLT Multilateral Trading Facility (DLT MTF)

A DLT MTF has trading abilities and is managed by an investment firm or market operator, approved under MiFID II. DLT MDFs would need to follow all requirements under MiFID II and MiFIR.

2. DLT Settlement System (DLT SS)

A DLT SS is a settlement system overseen by CSD-approved firms under CSDR and would be required to follow all requirements relevant under CSDR.

3. DLT Trading and Settlement System (DLT TSS)

A DLT TSS has trading and settlement abilities and combines the roles performed by MTFs and securities settlement systems. All MTF requirements under MiFID II/MiFIR and the CSDR would need to have been met.

Which securities does the DLT Regime apply to?

• Shares – a value less than EUR 500 million.
• Bonds – less than EUR 1 billion.
• Units – market value of assets of less than EUR 500 million.

What should firms watch out for

• Once a firm has applied to operate DLT, successful applicants will be exempt from requirements of existing legislation which could restrict DLT, e.g. CSDR, but only if the firm complies with the requirements of the exemptions.

• Compensatory measures must be requested by the relevant National Competent Authority (NCA).

• Before applying, applicants should refer to the guidelines included in the Final Report by ESMA, as this includes templates for those requesting exemptions from MiFIR, MiFID II or CSDR. It is also advised to speak with their NCA to prepare their application for permission to operate a DLT MI.

• Permissions to operate DLT are temporary and up to a period of six years. These will be reviewed regularly, and any operators that no longer meet the requirements will not be able to operate DLT.

• DLT operators will need to have a sufficient level of IT and cyber processes, safeguarding, record keeping and KYC/AML requirements.  

• The DLT Pilot Regime provides a legal framework for the trading and settlements of transactions of cryptoassets that qualify as financial instruments under MiFID. Other cryptoassets such as stablecoins, e-money tokens and utility tokens will not qualify as financial instruments and MiCA is more applicable.

CUBE comment

The EU DLT Pilot Regime certainly marks a step forward in the use of DLTs in European financial markets. The future is here and it’s digital. CUBE is here to help you navigate new regulatory obligations under the DLT Pilot Regime as well as other cryptoasset obligations.

CUBE uses AI-driven regulatory intelligence to track and monitor every regulatory change across the globe. Using intelligent horizon scanning technology, CUBE can ensure firms stay ahead of emerging regulations, so you know exactly what’s around the corner and can map it to your internal policies.

Get in touch today to discover how CUBE can help your firm reach confident compliance in all cryptoasset regulatory matters.