Japan Tightens Crypto Exchange Rules

Market watchdog rolls out five-point framework to prevent another Coincheck.

by Marin Marinov
08 May • 4 min
In Regulation

Japan`s Financial Services Agency (FSA) has introduced new standards for cryptocurrency exchanges aimed at preventing hacks and money laundering in the aftermath of the attack against Coincheck, when hackers stole more than USD 500 million worth of NEM (XEM) tokens from the trading platform.

"We need to introduce a new perspective in reviews of registrations. The registration process would go beyond mere documentation and include preliminary visits that make detailed investigations into how operations are managed,” an unnamed official from the FSA said at a meeting this April as quoted by the Nikkei Asian Review.

The five-point framework

The regulation should come into force after FSA begins accepting new cryptocurrency exchange applications in the summer. The registered trading platforms should also meet the new requirements:

1.System management rules: these measures include multiple passwords for money transfers and a ban on the so-called hot storage, or storing currencies in internet-connected computers. The rule means that cryptocurrency exchanges should use only cold storage methods which can be enabled through USB, hardware wallet and any other device that is not connected with the internet. Coincheck`s hacked NEM accounts were in hot storage;

2.Anti-money laundering (AML) requirements: the cryptocurrency exchanges should enable Know-Your-Customer (KYC) proceeding for identification when customers make large transfers. KYC is one of the most-popular AML practice and includes ID checks for preventing anonymity. Last month, FSA ordered Eternal Link and FSHO exchanges to halt temporarily operations after failing to implement several anti-money laundering measures;

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3.Setting internal rules for protection of customer assets: these measures include management of client`s assets separately from the operator and preventing employees from using customer fiat and digital currencies;

4.Banning of anonymous cryptocurrencies: the registered exchanges should not trade virtual currencies that enables high level of anonymity and can be easily used for money laundering. According to FSA, it is very difficult and nearly impossible to identify recipients of altcoins like Monero (XRM) and Dash (DASH) and this makes them ideal for money laundering and other criminal activities.

Both coins were mentioned as “highly problematic virtual currencies” during the regulator meeting with experts in April, the Forbes reported. Coincheck has partially resumed Monero operations enabling clients to withdraw and sell XRM but purchases are still unavailable;

5.Management structure: FSA wants cryptocurrency exchanges to clearly divide the roles of the shareholders and management. The trading platform also should separate system development roles form asset management ones with the aim of preventing employees from manipulating the system for personal gains.

Under the new rules, registration regime for cryptocurrency exchanges will have several steps: submitting documents, sending inspectors for checking the systems of the operator and then, verifying the number of employees.

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“The new five-point framework will let the agency perform a detailed assessment and identify potential risks in advance,” an unnamed official from FSA told Nikkei Asian Review.

Japan and cryptocurrency

Japan became the first country to legalize cryptocurrency exchanges last year by introducing a licensing regime. FSA has started reviewing its cryptocurrency regulation after the Coincheck hack. FSA has conducted several on-site inspections and has issued orders for business improvement to a few operators, including Coincheck.

The regulatory body has also warned Binance, the largest exchange by trading volume according to Coins.Online data, for operating in Japan without a proper license that has prompted the company to consider opening an office in Malta.

Currently, 16 crypto exchanges are government-registered and another 16, including Coincheck, are temporally allowed to operate in the country until their documents are being reviewed. The licensed trading platforms also set up self-regulatory body last week.