MiCA is coming for DeFi vaults, but regulation will be difficult

Brussels is reviewing whether crypto lending should fall under MiCA, but DeFi lending vaults are making it harder to determine who, exactly, should be regulated.

MiCA left crypto lending outside its original rulebook, but now Brussels is considering whether to bring it in.

Yuriy Brisov, an EU digital assets lawyer and partner at Digital & Analogue Partners, tells Magazine the law pertaining to vaults at present is unclear.

That’s just one of myriad regulatory problems, since vaults can perform the economic functions of lending while spreading other functions over smart contracts and multiple participants rather than a single company.

If Brussels decides lending should come inside the regulatory perimeter, what does that mean for DeFi, and where does it leave the people and protocols behind these vaults?

Decentralized lending protocol Morpho’s lending infrastructure gives some clues as to why this question will be so hard to answer. The way its vaults are set up and managed does not neatly map on to any existing regulatory model.

Its Vault V2 architecture divides responsibilities between an owner, curator, allocator and sentinel. The curator configures strategy and risk parameters, while the allocator executes allocations and the sentinel has powers intended to reduce risk.

While none of this establishes any of these participants as providing a regulated lending service under MiCA, it does show why identifying the relevant “provider” is less straightforward than with a conventional lender.

Jonathan Galea, a partner at Cahill Gordon & Reindel, explored the issue in a recent client update on lending vaults and their position under EU financial regulation. His analysis looks at how vault structures can sit across MiCA, stablecoin rules and European fund law.

Galea says policymakers should be careful about treating lending vaults as a single category, telling Magazine, “lending vaults solve more practical problems than they create.”

That would be important if Brussels decides to regulate lending, since a broad category covering “DeFi lending” could capture structures with very different economic functions and people exercising control over them.

MiCA currently excludes crypto asset services that are provided in a “fully decentralized manner,” although it can apply where only part of an activity is performed in a decentralized way.

One possible solution would be to make decentralization the dividing line, but Galea argues that could disadvantage newer protocols.

Brisov says the focus should instead be on the structure of the vault and the control people have over it.

He says if Brussels decides that lending and borrowing warrant regulation, they should be explicitly added to the list of regulated crypto asset services rather than broadening the definition of a crypto asset service provider itself.

Curve Finance founder Michael Egorov argues that the rules also need to account for the differences between decentralized lending and conventional finance.

Egorov says regulation should be approached “really carefully,” and that a dedicated framework could improve safety and open DeFi lending to new users, while avoiding rules that some protocols cannot comply with because of how they’re built.

The Commission’s consultation closes Sept. 30, and what follows could determine whether lending vaults remain outside MiCA or become subject to a new regulatory framework.

For Brussels, the challenge is not simply whether to regulate DeFi lending; it’s how to write rules that distinguish between very different forms of onchain lending and the people, if any, that actually exercise control over them.