Will regulators find their way to crypto on non-custodial wallets?
Non-custodial wallets have long been the gold standard for storing assets safely, as they cannot be frozen or controlled by exchanges or trading platforms. Owners retain full control over their private keys and are solely responsible for the security of their funds. This is especially convenient for those who do not want to repeatedly undergo KYC checks, report every transaction, or risk losing their funds that are held by a custodian (exchange or fintech company).
However, high-profile cases involving companies like Tether and their global asset freezes at the request of governments have sparked debate: Are non-custodial wallets still safe? If a stablecoin issuer can freeze tokens even in non-custodial wallets, where else might regulators reach?
This question concerns not only criminals, as it might seem at first glance. One might argue: if you have nothing to hide, why worry about Tether or any other issuer freezing stablecoins in any wallet? But ordinary users can also fall victim to such purges. Transaction histories and “mixing” of crypto on exchanges, P2P platforms, or even through third-party services are not properly considered. Yesterday’s crypto owner might end up on a sanctions list today, their assets — or part of them — could end up in another wallet via crypto exchange.
Who can guarantee that legal users won’t be affected by sanctioned asset freezes? Governments are already seriously counting on productive cooperation with stablecoin issuers. It’s possible that in the future, this collaboration will be used not only to detect violations and enhance security but also to track the assets of ordinary people and implement tax reforms. Combined with the full transparency of blockchains — where every transaction can be tracked online — crypto is ceasing to be the tool of financial freedom it was originally intended to be.
How the Crypto Industry Works Today
If we explain the current crypto industry in simple terms, we should start with its main players. The largest are, of course, exchanges, which act as both asset custodians and trading platforms, providing access to crypto-to-crypto and crypto-to-fiat exchanges. Smaller in volume but no less significant are exchange service providers and VASPs (Virtual Asset Service Providers), which perform similar functions but usually do not store crypto for users. Through exchanges, users can conduct one-time token swaps between their own or third-party wallets.
Individuals and businesses are the target audience for all these companies, for whom software and services are created.
In the B2B sector, there are additional services such as crypto processing, liquidity providers, technical providers for various purposes, and many other behind-the-scenes services for business operations. However, they all inevitably intersect at exchanges, where the bulk of exchange, purchase, and sale transactions take place. Exchanges are essentially the window into the world of cryptocurrency, but this window can only be opened by undergoing full identification in accordance with the laws of the country where the exchange operates and where the client resides. Comparing them to banks would be an exaggeration, although many are trying to become bank-like. KYC and AML monitoring processes are a must for these organizations, as mandated by their licenses.
For the average user, exchanges offer several advantages, such as constant market access, secure asset storage, and the ability to always recover an account if a password is forgotten. Exchanges provide the highest level of UX and an easy entry into the crypto market for everyone.
At the same time, cryptocurrency as a phenomenon is not tied to exchanges or trading platforms. Tokens are stored on wallets in the blockchain, and every user can obtain a non-custodial wallet and manage their assets independently. This path is more complex, as it lacks well-designed user flows, and one must truly understand the topic. Full responsibility for the safety of funds also comes to the fore. If keys are lost, there is no way to recover an account via email or phone — the assets are gone too. Despite this significant drawback, many businesses and even individuals choose this method of storing cryptocurrencies to avoid dependence on exchanges. Cases of hacks, where millions are stolen from exchanges in minutes, are not uncommon. Customer support often fails to provide high-level service, and exchanges can sometimes freeze assets for extended periods and charge high fees for their services.
What Crypto Regulators and Governments Aim For
However, alongside legitimate users, fraudsters have also adopted non-custodial wallets, immediately pushing them into a gray area and turning them into a questionable tool. Traditional financial system is fully transparent and controlled. If necessary, regulators can freeze funds in bank accounts and even on crypto exchanges if they identify the need for additional checks or have doubts about their origin.
When it comes to non-custodial wallets, freezing assets on them is impossible, as no one but the owner controls them. This “loophole” in security has long concerned authorities in various countries, and a recent FATF report confirms that work on this issue has been underway for quite a while. Banning the initial possibility to store funds in non-custodial wallets is not feasible, so regulators plan to significantly complicate the withdrawal of these funds into traditional currencies. The primary method for this will be enhanced user verification procedures during transactions.
The second step toward control will be cooperation with stablecoin issuers, which have become the most popular for long-term asset saving. Bitcoin or Ethereum have high investment value, but their exchange rates are volatile. Storing savings in these cryptocurrencies means constantly chasing market fluctuations. Stablecoins, on the other hand, are pegged to government currencies (USD or EUR), and their value remains stable regardless of market conditions. However, if a user stores such tokens in their own wallet, it is impossible to determine who that user is or where they obtained those tokens. Complex verification “at the exit” will help clarify this, and a red button from the token creators could theoretically freeze or burn assets in seconds if something is wrong with them.
In many countries with low trust in authorities, these trends have caused concern. Users fear that governments will abuse this capability and freeze assets indiscriminately. For many, crypto has become a tool for accessing global finance, and strong regulation could reduce interest in functionality.
At the same time, the groundwork has already been laid, and the only option is to respond and adapt to new conditions in a timely manner. The way to adapt will be diversification: moving to exchanges, avoiding concentration in stablecoins, and transitioning to decentralized tools. Stablecoins are convenient and simple, but they are in tight hands of their issuers, who have already demonstrated their ability to fully manage coins remotely. Users seeking decentralization in crypto have fallen into the trap of stablecoin creators, who have essentially replaced banks. However, for institutional use and as a tool for reducing international transaction costs, there is currently no better or cheaper alternative.
Crypto is growing and maturing, and this will inevitably lead to its full regulation.
