Regulators struggle with crypto's decentralization

Question marks around enforcement and taxation linger

By David Beach | 1 August 2018

Cryptocurrencies still remain on the sidelines of mainstream financial markets, with question marks still being raised over their viability among major market participants. 

“I’ve been a crypto fanatic ever since it came out, to be part of the ecosystem, not speculate,” Says Gurjeet Singh, CEO of Palo Alto-based Ayasdi, “[but] I’ve realised cryptocurrencies won’t fulfill any of their promises of decentralization because you will still have to rely on a coindesk or miners in China.

“You’d also need an element of trust for it to work, and that’s exactly what decentralisation is meant to do away with.

“There’s no nice way of saying it, total decentralisation cannot happen.”

But a survey of crypto exchanges released today has revealed that, contrary to perception, 88% of crypto exchanges want regulation. Respondents believe regulation is needed for the industry to mature with nearly a third fearing a major market crash and sudden devaluation of assets without change, according to crypto payment provider, Mistertango.

The survey aimed to assess feelings towards regulation, anonymity and the maturation of the crypto market. It represents the first time that the crypto industry itself has had its say on industry regulation.

“Until now, the industry has not had its say on regulation,” said Oleksandr Lutskevych, CEO of CEX.IO, a multi-functional cryptocurrency exchange, commenting on the results. “It has been widely supposed that crypto companies want to avoid a regulated environment, but this is far from the truth.

“The industry is all too aware that regulation will lead to the maturity of the market and ensure businesses remain free from suspicion of involvement with illegitimate uses of cryptocurrency."

One such area of regulation which would go some way towards maturing crypto's viability would be taxation, according to Perry Woodin, chief strategy officer of HashChain Technology, the tax reporting service specialising on cryptocurrency.     

Currently in the US, the IRS Notice 2014-21, released in March 2014, treats cryptocurrency as property for purposes of taxation. It means that every crypto transaction is a taxable event with associated gain or loss. Similarly, across the pond, the UK's HMRC issued their own guide in 2014, which outlined that cryptocurrencies are subject to corporation tax, income tax or capital gains tax.

“Enforcement will be challenging, which is why we’ve seen the IRS request customer records from exchanges like Coinbase,” says Woodin, “customer records will help the IRS identify who should be reporting their cryptocurrency tax liability. From a user perspective, the prospect of an IRS audit is probably a scary thought.”

The problem for Woodin lies in the ability for tax liability services to provide a clear audit trail, should the IRS come knocking.

“The only way to support a third-party audit of a claimed tax liability is to use specific identification,” says Woodin “Any service that uses FIFO, LIFO, or some other methodology will not be able to provide a verifiable audit trail. Based on IRS Notice 2014-21, it does seem the IRS expects specific identification. We will learn more, as enforcement cases are certain to occur this year.”

Woodin is convinced that proactive crypto taxation is key to the mainstream acceptance that the industry needs.

“If institutional investors are getting into cryptocurrency, it means they feel there is sufficient guidance related to compliance. Taxation is certainly a part of this,” says Woodin “the IRS guidance, while limited, signals acceptance of cryptocurrency as an investment option. It is also promising to see the alphabet soup of regulatory agencies issuing positive commentary on the evolution of the industry as a whole.”

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