Opportunities & challenges for decentralized gambling platforms

Over the past fifteen years, Malta has positioned itself as a unique regulatory and operational center for the remote gambling industry. As one of the first jurisdictions to offer regulation of remote gambling, operators have flocked to Malta in search of legal certainty and legitimacy. The economic impact of the move has been sizeable. In 2018 alone, the industry accounted for over 12 percent of Maltese GDP. Other European jurisdictions have seen and, to an extent, tried to emulate Malta’s success but actions such as the 2018 remote gambling regulatory overhaul have ensured that the country retains its position as one of the European jurisdictions of choice for operators from across industry segments.

The context has changed beyond recognition since 2004 when Malta initially took the plunge into remote gambling regulation. Public and political acceptance of gambling as entertainment have moved on but so too has the technology whereby that entertainment can now be enjoyed. Part of Malta’s success has been the ability to keep pace with, and sometimes, to predict change but this ability is set to be tested further with the advance of the latest technological and financial innovation: blockchain.

Blockchain technology is challenging the status quo in sectors ranging from financial services to supply chain management of edible goods. It presents a potential paradigm shift in the way concepts of trust, integrity, and certainty are secured through today’s most powerful force – technology. Since the emergence of the concept of decentralized currency, it was inevitable that it would impinge upon the remote gambling industry. A rapidly changing and adaptable technology for an industry that thrives on change and innovation: it feels almost romantic. A quasi-impenetrable gaming platform making use of a payment method outside the scope of financial institutions and banks may have seemed like a utopia of sorts 17 years ago, but not today. We have witnessed the emergence of the concept of ‘decentralized gaming’, whereby operators permit players to use a cryptocurrency on a completely stateless online gambling platform albeit one which provides full transparency and accountability via public ledger transactions. For regulators in the space, it really is a case of sink or swim. Either they choose to engage with the technology providing leadership and ensuring they remain relevant, or they accept the role of observer hoping perhaps to join at a later point but missing out on the opportunities in the meantime.

Malta decided to swim but swim intelligently.

Decentralized gambling

CONCEPT

So, what exactly is a decentralized gaming platform? There are different models each with unique characteristics, however, the concept may be summarized as an open, seamless and transparent platform through which transactions in blockchain-based digital assets, such as player wagers in cryptocurrency, are publicly recorded on a blockchain, ensuring full transparency and accountability. Decentralized gaming platforms may also allow for community-based ownership of platforms, whereby developers have a stake in the respective platform’s operation through their development efforts. Such platforms may be B2B or B2C in nature.

The introduction of such a concept to an industry which is already regulated is bound to stretch the efficacy and boundaries of the law. In this respect, Malta has developed a regulatory framework which, from a bird’s eye view, is intended to achieve three things:

• The provision of regulatory certainty for transactions in virtual financial assets (cryptocurrency);
• The protection of consumers dealing in such assets and/or dealing on/using decentralized innovative platforms;
• Cementing Malta’s position as a regulatory jurisdiction of choice for decentralized business ventures

THE MALTA DLT REGULATORY FRAMEWORK AT A GLANCE:

Malta’s regulatory framework for Distributed Ledger Technologies (‘DLT regulatory framework’) is comprised of three primary pieces of legislation which integrate with one another to provide the foundation upon which Malta’s quest to become the ‘blockchain island’ may become a reality. The three main pieces of legislation are the following:

i. The Virtual Financial Assets Act.

This act defines the ‘cryptocurrency’ asset class as ‘virtual financial assets’ (‘VFA’) and seeks primarily to regulate issuers of such VFAs and operators providing investment-like activity to consumers based on such VFAs. The act, despite its primary application in financial services, could be deemed the cornerstone of the DLT regulatory framework as it provides an avenue through which an asset may be classified, with legal certainty, as a VFA (i.e., “any form of digital medium recordation that is used as a digital medium of exchange, unit of account, or store of value and that is not electronic money, a financial instrument or a virtual token”). Such classification has opened the door for the regulated use of such an asset class in segments beyond investment services, such as remote gambling.

ii. The Malta Digital Innovation Authority Act.

This act established a regulatory authority, the ‘Malta Digital Innovation Authority’, which is tasked with the promotion and oversight of national policies covering technological innovation. This authority is also tasked with vetting and overseeing systems auditors who will provide a seal of approval for the proper functioning and legitimacy of DLT-based platforms. The authority is a key player in ensuring that the adoption of emerging technologies, such as blockchain, are rolled out in a manner which promotes Malta’s competitiveness but retains the highest level of consumer protection.

iii. The Innovative Technology Arrangements and Services Act

This act complements the Malta Digital Innovation Authority Act in that it provides the basis upon which technology platforms and services on those platform are regulated. The Malta Digital Innovation Authority is the designated competent authority in this respect. The act defines a technology arrangement as one which avails of a distributed, decentralized and/or replicated ledger, is public or private, is permissioned or permissionless, is cryptography based and is auditable. A blockchain-based gaming platform falls squarely within such a definition. Such a successful classification would render the platform as an ‘innovative technology arrangement’ (‘ITA’), which may be audited and certified accordingly by an approved systems auditor.

The framework is drafted in a high-level manner to ensure that it remains relevant within the fast-paced technology field. From the perspective of a remote gambling operator, the three acts combine to provide for a legitimate path along which a Malta-based company may seek to adopt an element of decentralization within its product.

PATHWAY FOR REMOTE GAMBLING OPERATORS

The application and overlay of these new Acts to the Gaming Act (Chapter 583 of the Laws of Malta) will be applied cautiously, however, and are not intended to create either a permissive or a restrictive regime. Rather, Malta has created a methodology through which such platforms are evaluated, tested, and scrutinized prior to being released to consumers within the regulated Maltese remote gambling market. The Malta Gaming Authority (‘MGA’) has developed a ‘Regulatory Sandbox’ which aims to provide remote gambling operators already licensed in the country with a route whereby their innovative product can be tested against the objective set out in the applicable guidelines, prior to being released to consumers at large. The sandbox may be considered a safe harbour of sorts, which allows for the roll-out of a decentralized platform within a safe and supervised environment.

The MGA Sandbox

INTRODUCTION AND BACKGROUND

The sandbox regime first became effective on the 1st of January, 2019, with the primary focus being to provide an avenue for already licensed MGA remote gambling operators to accept VFAs as a means of payment within the online gaming environment. In mid-2020, through the publication of the document “Guidance on the use of Innovative Technology Arrangements and the acceptance of Virtual Financial Assets and Virtual Tokens through the implementation of a Sandbox Environment – June 2020”, the sandbox regime extended in scope to allow for the adoption of ITAs by remote gambling operators with the MGA committing to retain the applicability of the sandbox regime until the 31st of December 2021.

In simple terms, the guidance document sits alongside the general backdrop of key pillars within the Maltese regulatory framework which may be summarized as:

1. Product legitimacy: a consumer should be delivered a product in a manner and form which meets reasonable expectations, in line with any restrictions and/or safeguards as imposed by law;
2. Approval-based approach: any platform and respective games offered on it should be pre-approved by the MGA and subject to an independently conducted audit. Such pre-approval extends to elements within the remote gambling operation’s infrastructure including key function holders and the respective IT infrastructure employed;
3. Consumer protection: consumers, especially players, are protected from the perspective of fraud, fund security and operator integrity
4. Supervision and legal adherence: the MGA, as the competent authority in terms of the Gaming Act, duly supervises operators and the products and/or services offered through the exercise of its powers as established in law.

ELIGIBILITY

In line with this cautious approach, operators may seek admission to the sandbox only when they are already in possession of the relevant MGA license and any other license or approval which may be required by law (such as, for example, approval for the offering of a specific virtual financial asset). This ensures that operators in the space are already known to the MGA and that a track record exists with respect to their operations and activities. Additionally, sandbox applicants must ensure that any test-net environment which forms part of the application must be capable of going live within three (3) months of MGA approval being issued. Accordingly, it is evident that the platforms targeted by this MGA initiative are those that are at an advanced phase of development only.

USE OF DECENTRALIZED ASSETS BY MGA OPERATORS

Prior to using any DLT-based asset, an operator must conduct the financial instruments test issued by the Malta Financial Services Authority to classify the asset as a virtual financial asset, virtual token, electronic money, or financial instrument. Application to the MGA must be accompanied by a legal opinion issued by a licensed VFA Agent as provided for by the Virtual Financial Assets Act, which highlights the licensability or otherwise of the DLT-based asset in question, in terms of applicable financial services and payments related law and regulation. As a rule of thumb, the MGA shall only allow the use of assets which are classified as VFAs and shall only allow the use of financial instruments, electronic money, or virtual tokens as a means of payment on the gaming platform where specifically approved by the MGA on a case-by-case basis.

Without prejudice to the MGA’s right, to be able to accept VFAs as a method of payment, MGA-licensed operators need to ensure that such VFAs:

1. Have financial value in that, inter alia, the technology represented by the token addresses a market requirement which is yet to be met and/or helps solve a problem, the underlying network is decentralized and it is easy for members of the network to use in that they have control of their wealth and the freedom to invest in it as they choose.
2. Have technological value, in that, inter alia, the technology is secure and responds promptly and adequately to deficiencies and weaknesses.
3. Are based on technology which is scalable in that, inter alia, there are practical applications in the present and/or future for the technology in question.
4. Are capitalized sufficiently to an acceptable level, not restricted to a specific geographic region and that a trading relationship exists with a fiat currency. Such a condition may be waived by the MGA if the objectives of the sandbox are still achieved.
5. Must, inter alia, be sustainable, backed by a reputable and strong issuing team and connected to a service and/or product offering.

The MGA may allow, on a discretionary basis, the use of virtual tokens, i.e. a “form of digital medium recordation whose utility, value or application is restricted solely to the acquisition of goods or services, either solely within the DLT platform or in relation to which it was issued or within a limited network of DLT platforms”. Such an assessment will be based on the economic factors mentioned above as well as a consideration of the technology, company structure, market applications, security and human resources associated with the virtual token.

WALLETS

Wallets which store VFAs for remote gambling purposes must have a specific address and must allow for the seamless deposit and withdrawal (conditional on the available balance) of that specific asset. It is critical that any wallet is tied to the player registered on the platform7. Remote gambling operators are therefore required to ensure that such a link is established and recorded.

DEPOSITS

The sandbox guidance document seeks to streamline the manner in which players may deposit VFAs and virtual tokens through the establishment of a procedure which must be adhered to. The deposit process for VFAs must include the player registration and wallet address identification with an obligation on remote gambling operators to freeze any pending amounts if the identity of the person who has control over it cannot be established. Any deposit in VFA must be subject to a wager in the same VFA and withdrawals must be made using the same VFA. Accordingly, remote gambling operators do not act as intermediaries. With respect to virtual tokens, the guidance document provides that remote gambling operators may issue virtual tokens to players in exchange for fiat currency on the platform itself. Additionally, the guidance document highlights that any withdrawal made following the use of any virtual token by a player must be put into effect using fiat currency.

A limit of €1,000 per month is placed on the amount a remote gambling operator may accept in VFAs by a player. This deposit limit is the summative value of all deposits in VFA denominated in Euro at the time of deposit on the basis of a rate of exchange established from a VFA exchange chosen by the remote gambling operator and as reported with the MGA. For the sake of clarity, given the volatile nature of most VFAs, the MGA established a matrix which should be used by remote gambling operators to establish whether a deposit value by a player is in line with the aforementioned limit. The matrix is set out in Section 2.5, Figure 1 of the guidance document and shown below.

This provision ensures that a core principle of gambling law, namely responsible gambling, has been applied in the guidance document.

INNOVATIVE TECHNOLOGY ARRANGEMENTS

The guidance document makes it explicit that the adoption of an ITA, which may indeed be the adoption of a DLT-based platform and/or smart contract within the gaming ecosystem operated by the remote gambling operator, must be specifically approved by the MGA and duly included in the sandbox. Such ITAs must be audited by a systems auditor duly licensed by the Malta Digital Innovation Authority. Any adoption of the ITA must not impair the operator’s capacity to abide by applicable law and/or regulation and is subject to a positive opinion from the auditor. In line with the ‘prior approval’ pillar of Maltese gaming regulation, the competence of administrators of the ITA must be assessed by the MGA.

To further expand the scope of the sandbox regime, the MGA has also allowed the hosting of games, game components and essential components on a distributed network, subject to a satisfactory audit and proper legal compliance as already mentioned.

From a smart contracts point of view, the MGA has opted to focus on the use of such contracts in a game transaction execution scenario, whereby, for example, VFAs are held by way of escrow and are released on the basis of a game’s outcome. To be admissible to the sandbox, such smart contracts must adhere to a pre-set number of conditions which include, for example, the imposition of self-exclusion limits by players, positive ascertainment of the player’s control of the wallet and the fact that the contract itself is reviewed by a systems auditor duly approved by the Malta Digital Innovation Authority.

LOCATION

Remote gambling operators wishing to implement/adopt a public and permissionless blockchain platform will need to establish a node in Malta which would replicate any data which an operator is obliged to “compile, retain or report” to the MGA under the Gaming Act or any other relevant regulatory instrument. Any flexibility regarding the requirement that the hosting architecture must be in Malta or another EU/EEA state complements the wide and distributed reality which encompasses blockchain technology.

Conclusions

What may seem like a small step with significant limitations is nonetheless a step in the right direction and one which reflects industry demand. Whilst the MGA sandbox has limitations as to eligibility and the restriction of operational activities, it demonstrates Malta’s commitment to keeping pace with innovations in the remote gambling industry, respecting the future potential of decentralized technology whilst ensuring consumer protection and the integrity of Malta as a remote gambling jurisdiction of choice is retained.

In conclusion, it is safe to say that the MGA’s acknowledgement that the local remote gambling regulatory framework is not technologically agnostic has opened a safe harbour avenue worthy of consideration which acts as an appropriate filter in the bridge between Malta’s DLT regulatory framework and the well-established Gaming Act. Naturally, the next stage of moving out of a sandbox mindset to a fully-fledged legislative regime will bring about challenges of its own. However, Malta is on the right track and not one explored by many.

This article was originally published in the summer 2021 edition of the IMGL Magazine.

About The Authors

Kyle Scerri is a CSB Group Regulated Industries and Compliance Advisor. Roger A. Strickland Jr., CSB Group Director for online gaming and business development holds grounded expertise on both the Group’s offerings as well as the iGaming Industry itself.

For more information or for any assistance please contact us at gaming@csbgroup.com.