As a small Nordic country that often gets overlooked, it makes sense that Estonia is eager for the opportunities of opening the country up for blockchain. As of today, it has some of the most advanced blockchain legislation in the world. It hosts some 700 blockchain companies with foreign shareholders, thus challenging Zug, also known as Crypto Valley. To find out the secret of its success, the research team of ORS CryptoHound interviewed Estonian law firms, software developers and corporate service providers.

Before It Became Mainstream

The global fancy for blockchain did not come as a surprise to Estonians. The country started applying similar technology for optimizing the performance of state agencies long before the global discovery of distributed ledgers. “Timestamping (now referred to as Keyless Signature Infrastructure) was developed by Guardtime back in 2007, and was first employed in official, state-maintained registries in 2012,” highlighted Veikko Toomere, a partner at NJORD Estonia.

“The whole Estonian ID-card system is built on an early blockchain technology called KSI (Keyless Signature Infrastructure),” stressed Mikk Maal, a co-founder of Comistar Estonia. “In Estonia, the ID-card is used not only for identification, but also for accessing and using various state services, including but not limited to voting, tax reporting, education, company formation, etc. I would say Estonia benefited a lot from blockchain technology even before it became so popular.”

A Blockchain Country

“Estonian KSI Blockchain technology protects a number of different Estonian e-services,” said Ain Aaviksoo, the general manager at Guardtime, a major software developer for Estonia’s e-society. These services include e-Prescription database, e-Law & e-Court systems, e-Police data, e-Banking, the e-Business Register and the e-Land Registry. “It shows information about companies in the Estonian e-Business Register, e-Land register, and e-Court system, as well as provides insight into when and how this information has been changed.”

Ain Aaviksoo also highlighted the successful application of blockchain in healthcare and legislative sectors. Thanks to the electronic ID-card system and blockchain technology, it is possible to detect who accessed or modified an individual’s digital health data. The DLT is also used for officially publishing laws and regulations in the Estonian National Gazette, which has been electronic since June 1, 2010. “There is no paper copy to turn to if something goes wrong with the portal,” he stressed. “To protect such an important database, the Estonian Center of Registers and Information Systems uses various security measures, one of them being the KSI Blockchain.”

A Rising Star

“Many entrepreneurs relocate their blockchain businesses to Estonia due to existing cryptocurrency regulations, favorable tax regime, and ease of doing business. More than 700 cryptocurrency/blockchain companies with foreign shareholders are running their blockchain business from Estonia,” said Dmitri Lihno, branch head (Estonia) at Private Financial Services.

Dmitry Lihno, who has put in time at the conference booths of IT and blockchain companies around the world, singles out Estonia as being particularly advanced. “I would say that Estonia is one of the world’s leaders in passing to a digital society and adopting blockchain. My counterparts from different countries are awed by the fact that one can set up a company in Estonia online in 20-30 minutes, and file taxes with a couple of clicks.”

Mikk Maal from Comistar Estonia referred to the country as “the most digital society in the whole world.” He mentioned that members of their parliament hold sessions online, and foreigners can run Estonian businesses remotely via their e-Residency program.

Tweaking Old Laws

Estonia has not developed separate laws for tackling blockchain and cryptocurrencies, as Malta and Gibraltar did. Instead of creating such legislation from scratch, it has adopted a number of guidelines specifying the application of the laws in force.

Its strategy seems to be working well. Veikko Toomere from NJORD Estonia highlighted that Estonia is a global pioneer in regulating cryptocurrency exchange businesses and transposing the EU’s 5th AML Directive. The country offers two types of licenses, one for cryptocurrency exchanges, and another for cryptocurrency custodian wallet services. Furthermore, it imposes KYC/AML obligations on any service provider dealing with either of the two.

The Financial Supervisory Authority of Estonia is rigid when it comes to licensed operations. Speaking of which, Nikolay Demchuk, an associate at NJORD Estonia, provides an example of the Otto de Voogd court case. Mr de Voogd was accused of providing “alternative means of payment services under the Estonian Money Laundering and Terrorist Financing Prevention Act” (that is how crypto exchanges were defined before AML5), without the authorization of the Financial Intelligence Unit.

The current priorities of Estonia in the field of cryptocurrency regulation, according to lawyers, are focused on tackling the issuance of equity tokens within STOs and testing the sustainability of smart contracts in Estonian courts.

Paperless Set Up

Estonia is at a very advanced stage of establishing infrastructure for online business operations. We already mentioned that registering a company can be done via e-residency from anywhere quickly. “There’s no requirement to be physically present in Estonia to conduct business. Nor are you obliged to rent an office or hire staff,” says Dmitri Lihno from Private Financial Services.

The initial expenses for setting up a cryptocurrency business in Estonia typically include:

€100 for obtaining e-Residency (in case of foreigners);

€190 for registering a private limited liability company;

€2,500 for depositing the initial share capital (unless it has been paid by a service provider);

€345 for obtaining a cryptocurrency license;

€1,000+ for legal, financial and other services.

Straightforward Licensing

Not every blockchain business in Estonia is subject to licensing. The need to obtain a license pertains only to wallet service providers and virtual currency exchanges. It is possible to obtain either of the two licenses for €345, in 1 month, which is an attractive opportunity for foreign investors. The process can be even faster. According to Paweł Krok, a management board member at Eesti Consulting, “If the investor is in a hurry, he can purchase an existing company, which has obtained both cryptocurrency licenses, thus being able to start trading straight after the company transfer.”

“The two above-mentioned licenses are for providing virtual currency exchange and wallet services, not for ICOs and issuing tokens,” notes Kristine Akopdžanjan, a corporate lawyer at KRM Advisor. “The required license type depends on the issued tokens,” she adds. Utility tokens would normally not require an FSA license, while security tokens may require PSP and investment fund licenses.

“When it comes to security token exchanges or the MTF (Multilateral Trading Facility operated by a licensed investment firm), then this is a different story – there’s a high capital requirement (€730,000), and licensing takes a long time (6-10 months), notwithstanding other requirements that the company has to comply with,” further explained Mikk Maal from Comistar Estonia.

These minor hurdles, however, are doing nothing to slow down the influx of new companies to the country. “More than 1,300 crypto licenses have been issued in Estonia to date, with the majority done in 2018 alone,” says Mardo Soo, CEO of Consulting24.co. Kristine Akopdžanjan, meanwhile, boasts that from over 300 applications KRM Advisor has filed, less than 10 have been denied.

Lucrative Taxation

The key to Estonia’s international success lies in undistributed profits being exempt from taxation. “Corporate taxation is shifted from the moment of earning the profit to the moment of its distribution,” stressed Kristine Akopdžanjan from KRM Advisor. “It means that as long as the profit is not distributed, there is no corporate income tax applicable to the company unless some other costs must be taxed. In other words, it is possible to run your company without any taxation at all and many entrepreneurs already do so.”

Speaking of the taxation of virtual currencies, Kristine Akopdžanjan highlighted the following rules:

There is no direct taxation if the token is sold or bought similarly to a security, investment, or another currency. Sales are counted as normal/regular even when payments for goods and services are received in virtual currencies. For accounting purposes, the transaction must be valued in EUR. Taxes are filed and returned in EUR. Payments for goods and services in the form of virtual currency are subject to the same VAT treatment as fiat currency payments.

Paweł Krok from Eesti Consulting further specified that company taxation is based on the company’s place of registration, regardless of where the management is located. He also added that cryptocurrencies are often treated as property and thus VAT exempt.

What to Expect in 2019

In 2019, Estonia-based blockchain and cryptocurrency businesses will be subject to enhanced due diligence.

Obtaining a cryptocurrency license will require an in-person verification. Kristine Akopdžanjan emphasized, “As of 17 April 2019, the FIU has the right to invite the contact person/compliance officer for a face-to-face meeting before granting any license(s).” The goal of this policy is to assure familiarity with the AML regulations and to encourage reporting cases of alleged money laundering or terrorist financing. This means that the applicants won’t be able to obtain a crypto license remotely, as they used to, and they will be given 30 days to fly to Estonia for completing the procedure. “With the adoption of new legislation, there will be stricter background checks so that obtaining a cryptocurrency license may take up to 90 or 180 days instead of 30 days,” added Paweł Krok.

There may also be minor changes in the second half of 2019. Dmitri Lihno believes that state authorities will most likely identify the main complexities and pitfalls in regard to crypto businesses after the submission of the very first annual reports by the end of June 2019.

Summary

To sum up, Estonia has a lot to offer to a prospective blockchain/cryptocurrency business owner. Benefits such as ease of business set-up, remote management, no taxes on undistributed profits, fast obtaining of crypto license, and adoption of international AML standards all make Estonia stand out. The changes in 2019 will further reaffirm Estonia’s international status as a friendly and transparent blockchain jurisdiction.