CryptoCurrency and the Weird World We Live In
Money. Whatever the form, it is at the core simply a medium of exchange. For millennia, people have used some form of this medium for the conduct of transactions from everyday commerce to, more recently, complex financial maneuvers. Throughout human history, new forms of money have evolved, solving problems with previous forms and — ironically — creating new problems.
Which brings us, in 2021, to cryptocurrency. Although mysterious to many, cryptocurrency may be seen as simply another step in the evolution of money. It’s just another medium of exchange, little different from shiny circles of precious metals or pieces of paper a government says are legal tender.
Well, maybe not. In other ways, crypto is vastly different. It’s digital. It’s not backed by gold deposits or the full faith and credit of a government or a financial institution. You can’t put it in your purse or hold it in your hand, and its volatility makes jet fuel seem like Diet Coke.
In fact, in a practical sense, as a medium for everyday transactions, most of us can’t use it for much of anything yet. Given the tax and regulatory issues surrounding cryptocurrency, it may have more utility, at least for now, as an investment vehicle than an actual currency. So why all the buzz?
That’s a question Paul Krugman, Nobel laureate in economics, says he has been “politely” asking cryptocurrency advocates for more than a decade. (Yes, cryptocurrency is that old. Bitcoin, still by far the largest cryptocurrency was introduced in 2009.)
Writing in the New York Times, Krugman observes that “Twelve years on, cryptocurrencies play almost no role in normal economic activity … Twelve years is an eon in information technology time… By the time a technology gets as old as cryptocurrency, we expect it either to have become part of the fabric of everyday life or to have been given up as a nonstarter.”
That day could be coming. Although Krugman is not the only expert skeptical about the role of cryptocurrency in the real world of legitimate business and personal finance, others take a different view. James Barth, Lowder Eminent Scholar in finance at Harbert, has written that cryptocurrency may be approaching an “inflection point” that brings it into the financial mainstream as a readily usable currency and as an investment instrument.
“One overarching key to mainstream adoption of Bitcoin and other cryptocurrencies is trust — trust in the concept of cryptocurrencies, trust in the underlying technology, trust in all the participants in the payment process and trust in the judgment of some of the biggest players in the investment community that Bitcoin and other top-tier cryptocurrencies represent long-term potential as viable investments,” Barth said. “This growing level of confidence is critical to the continued use of Bitcoin and others as both a payment option and as a potentially lucrative investment opportunity.”
However, there are reasons why its use in everyday commerce isn’t yet as commonplace as a credit card, why your customers generally aren’t clamoring to pay you in Bitcoin, why your vendors aren’t pushing you to pay them in cryptocurrency. Cryptocurrency is a fertile field for research, and Harbert is exploring it.
Faculty members in Harbert’s School of Accountancy have been researching the challenges surrounding cryptocurrency. They collaborated to develop case studies which have been published in the top accounting education journal, with several more in the pipeline. Their work not only engages students, but also helps businesspeople better understand this instrument and its potential impact on their companies.
“We are constantly looking for topics that grab students’ attention while allowing them to develop and apply their accounting knowledge and skills,” said Professor James Long. “Cryptocurrency has dominated the
eadlines for a few years now, and we realized that it has a number of accounting implications, many of which are unique or particularly salient for this asset class.”
Consider auditing, for example. Given the extraordinary volatility of cryptocurrency versus fiat currency — currency backed by a government — how is it properly accounted for? “I think the primary issues auditors have or will run into when auditing a company holding cryptocurrency rather than fiat currency is determining the proper accounting treatment and appropriate value on the balance sheet,” said Ryan Dunn, assistant professor. “Additionally, the acceptance of cryptocurrency as payment for goods can introduce an array of revenue recognition issues.”
Because cryptocurrency is not legal tender backed by a government or central bank, it doesn’t meet the definition of cash and cash equivalents for accounting purposes. The “common landing spot” for cryptocurrency on
the ledger has been intangible assets, Dunn said.
But it can get a little tricky here. Intangible assets are valued at cost. “When accepted as payment for goods, the value should be determined at the time the contract is completed,” Dunn said. However, a contract “could be entered into well in advance of the good being delivered, which could result in large swings in value due to the volatile prices we have seen.”
The numbers could vary significantly. The good could be sold for a set price in fiat currency, say $30,000, with the payment in the equivalent amount of the cryptocurrency. But suppose the good is sold for a specific number of units of the cryptocurrency, say one bitcoin. Bitcoin sold for $56,624 on May 1. On May 18, it went for $36,772. In late July, it briefly dipped below $30,000. That kind of volatility might throw your budget off a bit.
So far, there isn’t much official guidance for auditors. Dunn noted that the Financial Accounting Standards Board cites the lack of widespread corporate transactions and holdings as the reason for not specifically addressing the accounting treatment for cryptocurrencies. For the moment, the Big 4 accounting firms advise their clients to consider cryptocurrencies intangible assets.
Then there’s the question of taxes. You might have noticed this question at the top of your Form 1040 earlier this year: “At any time during 2020, did you receive, sell, send, exchange, or otherwise acquire any financial interest in any virtual currency?”
If you did, you might owe some taxes. Despite the “currency” part, cryptocurrency isn’t treated like currency for tax purposes. It’s treated like property or an investment. Those who trade in cryptocurrency will have a gain or loss in the process and may face capital gains tax if the sale is not in the taxpayer’s ordinary course of business. If it is in the ordinary course of business, then the taxpayer could face taxation at his or her marginal
tax rate.
And there’s more. “Taxpayers using cryptocurrency to purchase items will recognize a capital gain or loss on the difference between their basis in the cryptocurrency and the purchase price of the item,” said Mollie Mathis, assistant professor.
This gets a little tricky, too, given the volatility of cryptocurrency. The IRS directs taxpayers to use “a reasonable manner that is consistently applied” when calculating the fair market value of virtual currency, Mathis said, and the American Institute of Certified Public Accountants says taxpayers can use an average rate for different exchanges and should use time stamps whenever possible.
Although the tax structure may have the practical effect of discouraging the widespread use of cryptocurrency as a mainstream medium of exchange, that’s not the intent, Mathis said. Because it is treated as property, the increase or decrease in value creates tax consequences for businesses and investors who use cryptocurrency in transactions, unlike cash, which has relatively stable value.
“I don’t believe the limited tax rules in place were intended to discourage the use of cryptocurrency, but rather to recognize this change in value as a taxable gain or deductible loss similar to how other non-currency assets are treated,” she said.
The IRS is enough of a specter for most folks, but the Grim Reaper comes into this picture, too. As with other assets, when your time comes, you can’t take your cryptocurrency holdings with you. However, you can, whether by design or default, make sure no one else gets them. If that’s what you want, fine. But if you want your cryptocurrency to be part of your estate, something you leave to a spouse or a child or an institution, there’s the little matter of access.
Because cryptocurrency is protected, really well protected, by a private key held only by the owner, no one else can gain access without that key. This isn’t like your Netflix password. It’s a 256-bit string of characters. Nobody’s going to guess it. Your executor can find bank accounts or stock shares, but retrieving your cryptocurrency without the private key is a virtual impossibility.
Which means that unless you leave that information with your heirs, the cryptocurrency — the money — is unavailable to them or anyone else. It might as well not exist. Given that, those plain old greenbacks, or their equivalents in more conventional investments, haven’t lost their place in the financial landscape just yet. But whether its utility is eventually enhanced by changes in tax law and regulation, or market forces somehow cause it to morph into a more widely trusted and easily used medium of exchange for routine transactions, cryptocurrency is claiming a part of that picture.
—Jim Earnhardt
