Crypto tax standards in the coming year could prove to be a trying time for the industry. Global tax regulators are putting more pressure on centralized and decentralized exchanges. This could even affect your own personal crypto holdings.
The primary source of revenue for most governments is taxation. Unsurprisingly, crypto’s incredible growth has attracted the attention of tax agencies everywhere, and significant changes are coming very soon.
This article will shed light on the recently enacted global crypto tax plans and how they may affect the future of the industry.
Witness the rise of crypto
These global crypto tax plans come from an unelected international organization, the Organization for Economic Co-operation and Development (OECD). It consists of 38 of the most developed and prosperous countries. The OECD website says its purpose is to “build better policies for better lives.”
In practice, the organization proposes political recommendations that have the potential to become regulations in the member states. There are currently 38 OECD member countries.
The OECD’s interest in cryptocurrency taxation began in late 2020. This makes sense, given that this is when the previous crypto bull market began to explode. During this time, the regulatory organization noticed inconsistent tax rules between member states.
Shortly after, the OECD announced that it would issue global crypto tax standards in 2021, citing “increasing interest from member states in taxing cryptocurrencies.”
Tax crypto income
There has already been some delay since the OECD’s first draft of the global crypto tax standards. However, this draft contains some concerning items involving potential tax reporting rules related to DeFi protocols, stablecoins and NFTs.
There are also concerns that compliance with the Crypto Asset Reporting Framework (CARF) will price out competitors. This is essentially what happened with the OECD’s previous global tax proposal for the traditional financial system. The OECD introduced the Common Reporting Standard (CRS) in 2014. It was challenging and costly for existing financial institutions to comply with when it came into force.
Complying with CARF is likely to become even more difficult and expensive. Mainly because of all the additional data the OECD requires from crypto companies and platforms. After digesting comments and suggestions from experts and crypto industry leaders, the OECD released its final global crypto tax standards in October.
Several governments have since confirmed that they will apply these standards sometime next year, including EU member states.
Adjust the standards
BeInCrypto received exclusive comments from EU representatives via email supporting the tax standards. Paolo Gentiloni, Commissioner for the Economy, a key member of the European Union, echoed points from the December 8 report:
“Our proposal will ensure that member states receive the information they need to ensure that tax is paid on gains made from trading or investing in crypto-assets. It is also in line with the OECD initiative on the framework for reporting cryptoassets and the EU regulation on markets in cryptoassets.”
The proposal takes the form of an amendment to the directive for administrative cooperation (DAC). It is in line with the OECD initiative on CARF and CRS.
The final proposal specifies that “entities or individuals providing services that perform exchange transactions in cryptoassets for or on behalf of clients will be required to report under CARF.”
In theory, this means that CARF only applies to crypto exchanges and platforms. However, the scope of CARF may be wider in practice, which could have serious implications for the crypto market. CARF also includes changes to the aforementioned common reporting standards for the traditional financial system.
This is interesting because these changes primarily concern central bank digital currencies or CBDCs. This confirms that the OECD expects CBDC to become more widespread and implemented in the coming years.
OECD tax plans
CARF consists of four pillars:
- Relevant cryptocurrencies: The cryptocurrencies CARF applies to.
- Relevant entities: the persons and institutions that must report tax-related information.
- Transaction reporting: The types of transactions they must record.
- Due diligence: The background checks they have to do.
CARF may eventually apply to personal cryptocurrency wallets. This includes hot wallets (wallets connected to the internet) and cold wallets (crypto wallets kept offline, i.e. hardware wallets). The report also suggests that simply having a personal cryptocurrency wallet means that a person is a risk for illegal activity and tax evasion.
There will likely be changes to CARF that change rules related to personal crypto wallets and DeFi protocols. The aforementioned report specifies that these regulations will cover any “new crypto technologies developed” in the future.
CARF currently only applies to stablecoins, tokenized real-world assets and “certain NFTs.” This is surprising because the Financial Action Task Force or FATF excluded all NFTs from its own final recommendations on cryptocurrency regulation.
Breaks it down
Three types of cryptocurrencies in particular do not fall under CARF. The first is any cryptocurrency that is not used as a means of payment or for investment. The second and third are CBDCs and centralized stablecoins.
As for individuals and institutions, the report states that it primarily applies to any intermediary providing crypto services of any kind. This includes crypto-to-fiat trading, crypto-to-crypto trading, crypto depository, crypto ATMs and some decentralized exchanges. As for DEXs, the report sheds light on FATF’s final recommendations on crypto regulation. This means that decentralized exchanges that are not truly decentralized will be heavily regulated.
Was it a good way to ensure that the crypto ecosystem remains decentralized in the long term? Only time will tell. But there is a gray area. In a so-called reporting nexus for individuals and institutions falling under CARF, relevant entities will have to provide comprehensive details of all their subsidiaries, their headquarters, where they operate from and where they are taxed.
This may cause concern because many international exchanges have not yet established their global offices. If they do not do so before CARF is implemented in OECD countries, they may be banned by all of them.
Crypto exchanges and platforms will have to scrutinize users’ information carefully. But some tax experts revealed that CARF can be used in up to 140 countries. This is significantly more than the G20 countries that the OECD targets.
In an episode of International Tax Bites, one of the tax experts also noted that the OECD’s definition of a crypto-asset may apply to smart contracts. And therefore to decentralized apps (dApps) and DeFi protocols. This is because the definition focuses on the transfer of value across a distributed ledger. Something smart contracts technically also do.
If that wasn’t scary enough, CARF could be “done at a moment’s notice” and could “easily slip into bills working their way through parliaments.” Also, cryptocurrency exchanges and platform users will have up to 12 months to complete the self-certification form before being banned.
The tax experts emphasized that any discrepancies between the information on the self-certification form and any information about the crypto exchange could lead to serious problems. The threshold for inconsistency will vary from country to country.
What the landscape might look like
Crypto exchanges and platforms must provide detailed reports. Including relevant transactions for each coin and token they offer. As for the timeline, the tax experts claimed that it could start being rolled out in some countries by next year and will vary from country to country. However, the experts warned that some of these exchanges and platforms could face serious problems if they do not get ahead of the game.
Overall, penalties are calculated based on the number of users, not violations. For example, if the penalty for late CARF reporting is $1,000 per day, and a cryptocurrency exchange with 1 million users reports to the IRS one day late. It wouldn’t be a $1,000 fine; it would have been a $1 billion fine.
This is terrifying for crypto businesses.
What does the future hold?
Here’s the big question: What could the OECD’s CARF mean for the crypto market once it’s introduced?
The short answer is that it ultimately depends on whether cryptocurrency exchanges can set up their infrastructure to comply with CARF before it is rolled out.
As mentioned above, this will be much more difficult for so-called offshore cryptocurrency exchanges. It may be easier for cryptocurrency exchanges like Coinbase. However, many of these so-called onshore exchanges are already feeling the pressure of the bear market.
This is probably why the OECD waited until late 2022 to announce CARF. Because its constituents knew that the costs of CARF compliance would further compress cryptocurrency exchanges.
After all, billions of dollars have already flowed from the traditional financial system to cryptocurrency exchanges and platforms. And much of this money came from big banks. This is why many banks started offering in-house crypto trading services in 2021.
At the same time, governments around the world will soon be rolling out their CBDCs, and the last thing they want is competition from other digital currencies. This probably explains the inclusion of stablecoins in CARF.
Most of the potentially harmful regulations will only affect centralized parts of the crypto industry. This can even be considered bullish for decentralized alternatives such as decentralized exchanges.
This ties into another implication of CARF: the continued erosion of privacy on the chain. Reporting every transaction to and from personal cryptocurrency to the tax authorities is a dangerous precedent.
This may lead to privacy coins being removed from the list for tax reasons. Requiring exchanges and platforms to keep track of these transactions is also arguably overkill.
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