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Accounting for Cryptocurrencies

FAS CPA & Consultants

No accounting standards exist for cryptocurrencies. As a result, accountants must refer to existing accounting standards.

 

What is a Cyptocurrency?

An intangible digital token. It is recorded with a blockchain. A blockchain is a distributed ledger infrastructure. Ownership of the key that allows you to make new entries in the ledger enables you to reassign ownership of the token. The tokens are not stored by their owners. The owners of the tokens merely hold the keys to the blockchain. The tokens represent amounts of digital resources controlled by their owners. The keyholders that control these tokens can reassign ownership of the tokens to third parties. The tokens function as a medium of exchange and provide defined rights of use.

 

What is a Crypto CPA?

A crypto CPA specializes in accounting for cryptocurrency investors and traders and must have a sound understanding of the impact of different currencies on a trader’s basis position. This requires a thorough knowledge of crypto trading, the world of crypto exchanges, and all the various coins available.  

⇒ How to classify and report transactions.

⇒ Understand what the IRS requires in terms of disclosure and reporting. The crypto exchanges report directly to the IRS for all investors holding $20,000 or more in fiat currency or equivalent to crypto.

⇒ Crypto investors need to account for and disclose their transactions despite not receiving any statements from the exchange.

⇒ This is a task best left to a crypto CPA.

 

How Do Accounting Manage Cryptocurrency Investment

⇒ Select the cryptocurrencies you want to buy.

⇒ Open an account in your preferred exchange.

⇒ Start trading.

⇒ Keep records of all trading and any events that produce income, including:

⇒ Forex drops.

⇒ Lending.

⇒ Sale of currency.

⇒ Mining for cryptocurrency.

⇒ Purchasing cryptocurrency.

⇒ All information about crypto transactions must be downloaded from the exchange and posted into tax software to produce the required tax forms.

⇒ When crypto is sold for a loss or a gain, the IRS will require proof of the transaction. This must be downloaded from the exchange.

⇒ All these transactions must be posted to the year-end for tax classification, disclosure, and reporting.

 

Different reporting requirements exist for crypto acquired through mining and crypto purchased.

 

What is Bookkeeping for Cryptocurrency?

Crypto bookkeeping is imperative for partnerships that invest money on behalf of their clients. 

⇒ The partnership must record all transactions.

⇒ Bank statement reconciliations must be done.

⇒ Records must be prepared to assist in producing financial statements.

 

What are the Benefits of Having a CPA Specializing in Cryptocurrency?

⇒ Classification of transactions into long-and short-term trades

⇒ The classification provided by both exchanges and tax software is often wrong.

⇒ Your crypto CPA will scrutinize all the relevant dates to guarantee an accurate report.

⇒ Since long-term transactions are taxed at lower rates than short-term transactions, accuracy is vital.

⇒ Tax preparation by a crypto CPA will prevent overpaying taxes and protect you from making costly mistakes.

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Accounting Standards

Cryptocurrency cannot be accounted for as cash because it cannot be readily exchanged for goods or services.

⇒ Digital currencies are not legal tender, even though they are already widely accepted as a medium of exchange. Therefore, no one can be compelled to accept cryptocurrency.

⇒ Cryptocurrencies are price volatile. To be accepted as cash equivalents, crypto needs to be:

⇒ Short-term liquid investments free from the risk of value fluctuations that are easily exchanged for known amounts of cash.

⇒ Cryptocurrency fails to meet the definition of a financial instrument.

⇒ It does not represent cash.

⇒ It does not express an equity interest.

⇒ It does not mean a contract establishing a right or obligation to receive cash or another financial instrument.

⇒ Cryptocurrency is not a debt security.

⇒ Cryptocurrency is not an equity security.

⇒ It then follows that crypto is not a financial asset.

 

IAS 38, Intangible Assets: An intangible asset is an identifiable non-monetary asset without physical substance. It is identifiable if it can be separated or arises from contractual or other legal rights. 

⇒ Separability requires that the asset can be separated or divided from the entity, can be sold, transferred, licensed, rented, or exchanged. Individually or together in terms of a contract or identifiable asset or liability.

 

IAS 21, The Effects of Changes in Foreign Exchange Rates:  Non-monetary assets are stripped of the right to receive or an obligation to deliver a known number of currency units.

⇒ It appears that crypto indeed meets the definition of an intangible asset.

⇒ Cryptocurrency can be traded on an exchange.

⇒ It also promises a future inflow of economic benefits despite the risk of extreme variations in value which defines its non-monetary nature.

⇒ As digital money, it does not exist physically.

⇒ According to the cost model, upon initial recognition, intangible assets are measured at cost and afterward at cost less accumulated amortization and impairments.

⇒ According to the revaluation model, intangible assets can be carried at a revalued amount in an open market.

⇒ Not all cryptocurrencies exist in an open market.

⇒ All assets must be measured in the same manner cryptocurrencies should be measured following the cost model.

 

Despite the same, cryptocurrencies traded on an exchange can most likely be measured by revaluation.

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Revaluation Model

⇒ An increase must be recognized under other comprehensive income and accumulated in

⇒ The portion of a revaluation increase that reverses a prior revaluation decrease of the same asset recognized under profit or loss should be recognized under profit or loss.

⇒ Suppose there is a credit balance in the revaluation surplus for the asset. In that case, a revaluation loss must be recognized under other comprehensive income.

⇒ Otherwise, a revaluation loss must be recognized under profit or loss.

 

IFRS 13, Fair Value Measurement, applies to the determination of the fair value of cryptocurrency. It also provides the definition of an open market that must be used.

⇒ Bitcoin is traded daily.

⇒ For Bitcoin, the existence of an open market is self-evident.

⇒ Fair value is reliably based on quoted market value, free of any adjustments.

⇒ Quoted market value should be based on the most advantageous market.

 

According to IAS 38, an intangible asset with an indefinite useful life should not be amortized. Instead, it must be tested annually for impairments. Therefore, following IAS 38, cryptocurrencies should be considered to have an indefinite useful life. 

⇒ Therefore, you must determine whether your cryptocurrency has a finite or indefinite useful life.

⇒ An indefinite useful life means there is no foreseeable limit to how long the asset will generate net cash inflows.

 

IAS 2 applies to inventories of intangible assets defining inventories as assets:

⇒ Held for sale in the ordinary course of business.

⇒ Held in the process of production for sales.

 

Held in the form of materials or supplies consumed in the production process or the rendering of services.

 

⇒ Enterprises that sell cryptocurrency can treat crypto as inventory.

⇒ Recognize inventories at cost when it is lower than net realizable value, and vice versa.

⇒ Crypto broker-traders should value inventories at fair value minus the cost of sales.

 

Broker-traders acquire crypto to sell, making profits from fluctuations in price or margins. 

 

Unusual Disclosure Requirements

IAS 1, Presentation of Financial Statements, requires accounting for cryptocurrencies to provide additional disclosure to inform stakeholders of the basis for decision-making relating to the accounting of assets.

   

IAS 10, Events after the Reporting Period, requires disclosure of any material non-adjusting events. 

⇒ IAS 10 comes into play after the reporting period when changes to the fair value of cryptocurrency are significant. That is when non-disclosure would affect any parties’ economic decisions based on the financial statements.

 

Under ASC Section 350, assets are held at their cost basis, subject to impairment while ignoring subsequent increases in fair value. On their balance sheets, enterprises account for these assets at cost price; on the income statement, it can only account for a loss of value when it falls below the cost price. As a result, increases in price and value are ignored on the balance and income statements. 

 

In 2020, MicroStrategy [NASDAQ: MSTR][1] bought Bitcoin for more than $250 million. During 2021 and 2022, they more than doubled their exposure. In 2021 Tesla spent $1.5 billion acquiring Bitcoin. 

⇒ As more public companies followed MSTR into the digital asset market, there seemed to be an initial consensus that they account for the same following Accounting Standards Codification [ASC] Section 350.

⇒ This consensus quickly evaporated: could accounting for digital assets following the rules for indefinite intangible assets appropriately value this emerging asset class?

 

The Financial Accounting Standards Board [FASB] finally decided to discuss overhauling the existing accounting guidelines on digital assets. Their decision on May 11, 2022, was undoubtedly partly driven by the appearance of cryptocurrencies [Bitcoin] on the balance sheets of publically traded corporate companies.

⇒ The FASB agreed to open discussions by questioning the existing methods of:

⇒ Recognition

⇒ Measurement

⇒ Presentation

⇒Insiders hope that fair value measurement, as set out in ASC 820, will replace ASC 350.

 

It remains unclear exactly how ASC 820 will influence digital asset-holding accounting. 

⇒ It has been suggested that a price appreciation would be accounted for at the current market value on the balance statement based on the specific financial reporting period date.

⇒ When the price increase exceeds the cost price, it will amount to an increase in net income which would be reflected in the income statement.

 

The FASB is only looking at exchange-traded assets. These include well-known cryptocurrencies like Bitcoin, freely traded at determinable prices. 

⇒ Non-fungible tokens, NFTs including digital art and video clips, are, by definition, unique and hard to value. As a result, they are excluded from any potential new rules.

⇒ Stablecoins are often classified as financial instruments and will also be excluded.

 

The new rules must prevent enterprises from inflating their balance sheets by merely selling an obscure coin once. Otherwise, anyone could invent a coin, and they would have to sell only one to boost the value of another million similar coins.

 

Readers should note that this article is only intended to convey general information on these issues and that FAS CPA & Consultants (FAS) in no way intends for the contents of this article to be construed as accounting, business, financial, investment, legal, tax, or other professional advice or services.  This article cannot serve as a substitute for such professional services or advice.  Any decision or action that may affect the reader’s business should not rely solely on the contents of this article, but should rather be consulted on with a qualified professional adviser. FAS shall not be responsible for any loss sustained by any person who relies on this presentation.  This article is subject to change at any time and for any reason.

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