Accounting for Crypto Assets
The holiday season of 2017 arrived with a unique gift for the accounting community: cryptocurrency (aka, digital currency or digital assets). Digital currencies have been around since 2008 with the advent of Bitcoin as a peer-to-peer payment system built upon blockchain technology. But Bitcoin and other decentralized currencies came onto the scene in explosive fashion when the values of some major cryptocurrencies increased more than 1,000 percent seemingly overnight.
As a result, cryptocurrency as a concept was thrust into the public lexicon, and, as expected, speculative investment as well as new business models incorporating cryptocurrencies blossomed. While the frenzy fizzled in 2018, the pricing surge put an entirely new chapter of accounting issues into the spotlight.
Accounting for cryptocurrencies is certainly unique. It’s hard to pinpoint any good analogies to lean on when thinking through an approach to accounting. The public discourse around cryptocurrencies has largely been around “mainstream” crypto such as Bitcoin. However, the complexity comes from the fact that cryptocurrencies can take on many forms, such as utility tokens, security tokens, digital assets or digital currencies. This is what makes it somewhat of an accounting chameleon. It can be viewed as inventory, equity, pure currency, investment assets, intangible assets and the like.
While the Financial Accounting Standards Board (FASB) and the Securities and Exchange Commission (SEC) have not taken any formal positions on accounting for digital assets at this time, the accounting community has taken a fascinating approach in coming to their conclusion — a simple process of elimination. Instead of making a declaration of what cryptocurrency is, many firms have taken steps to simply rule out what they believe it is not.
Process of Elimination
Cryptocurrencies manage to fail a lot of accounting tests. The obvious starting point is cash. Crypto fails because it is technically not legal tender or backed by any form of government. The next logical step is to look toward classifying it as a financial instrument (carried at fair market value). Crypto fails this test as well as it does not contain any contractual right to receive cash at a future point in time. As we work down the balance sheet, the next stop on the list is inventory. While this seems like a possible place for crypto to land, the problem is it clearly is not a tangible asset — a foundational test that must be passed to be considered inventory or fixed assets.
The analysis leaves us with one place to go: intangible assets wins the day. The only problem is that intangible assets are generally carried at cost and evaluated for impairment (with no opportunity to write up assets if they increase in value). This leaves accountants with the unsavory conclusion that a highly volatile asset, which has a readily assessable fair value in an open market place, is, at best, frozen in time in the financials.
Guidelines are Needed
Currently, the SEC is working through a substantial number of offerings involving cryptocurrency under the new Regulation A and Regulation A+ offering guidelines. While they have signaled that treating digital assets as intangibles subject to impairment is an acceptable and preferred conclusion, they have stopped short of laying down the rule of law — leaving us all thirsty for answers.
While we may currently be settling into an “industry norm,” our conclusions may need revision. When we think about these assets in real terms, they are instruments that are freely transferable and have a readily assessable fair market value. Holders can generally achieve liquidity by converting them into cash or other cryptocurrencies with marginal effort. Carrying these assets at cost, written down for impairment without any option to write them up to the extent that they grow in value, may be a greater disservice to the reader of a financial statement than the perceived benefit obtained through “conservativism.”
The fact remains that, in one form or another, cryptocurrencies and digital assets are here to stay. It is time for the accounting community to acknowledge that this is the case and draw up a comprehensive set of principles that we can all follow with confidence.
Christopher M. DeMayo
Chris DeMayo, CPA, is a partner with WithumSmith+Brown, PC and practice leader of the firm’s Technology and Emerging Growth Services Group. He is the leader of the NJCPA Emerging Technologies Interest Group. He can be reached at firstname.lastname@example.org.