2019’s DeFi Boom Raises New Questions for Tax Filing Season
If you lock up bitcoin or ether in exchange for an artificial asset or a stablecoin, as nearly a dozen projects and platforms today allow, is that a trade or merely a short lived reorganizing of the first asset?
Cryptio CEO Antoine Scalia, of the accounting startup that received alittle investment from ethereum co-founder Joe Lubin’s ConsenSys, said there’s no clear answer yet.
“The challenges are going to be the way to account for all the utilization cases in 2020,” Scalia said. “The more complex transactions and assets are, the more complex the accounting is.”
That’s why firms like Dragonfly Capital and Winklevoss Capital, the latter owned by Tyler and Cameron Winklevoss of the Gemini exchange, invested $5 million in startups like TaxBit. TaxBit CEO Austin Woodward said thus far “thousands” of users have signed up for the 2020 tax season, including a couple of exchanges.
Dragonfly Capital co-founder Alex Pack said connecting automated software to an exchange account could create additional privacy risks within the case of a cloud breach, which is why the firm invested in TaxBit’s experienced team.
“There are tons of attacks on blockchain around anonymity or pseudonymity that believe knowing tons of the addresses between various exchanges,” Pack said. “That’s why we might only trust something like TaxBit … which comes from the business-to-business, security-focused mindset.”
He added the interior Revenue Service (IRS) is being “heavy-handed” when it involves staking and DeFi products. Because there are not any clear categories for the experimental assets, prudent DeFi users record everything from wallet addresses to open ASCII text file links just in case the IRS comes knocking. That’s why these new compliance tools record and aggregate data across various networks.
“Our software offers real-time monitoring, because we've the API connections. We’re pulling in data as you trade, a minimum of daily,” TaxBit’s Woodward said. “We’re releasing tons of functionality around tax optimization. Recommending trades that would give users the foremost beneficial tax answer.”
So far, Woodward said DeFi users that used MakerDAO loans and other financial products beyond exchanges got to enter transaction details manually, counting on support from TaxBit’s chat hotline with tax attorneys and CPAs (Certified Public Accountants).
Both of the above-mentioned startups are working with clients to enhance their systems’ ability to automatically flag potentially taxable events within the DeFi ecosystem.
As for Cryptio, which is strictly focused on serving businesses and doesn’t offer a TurboTax-style option for retail users like TaxBit, Scalia said his team helps clients that used DeFi products to record information associated with every smart contract the asset touched along the way.
“The exchange of the ETH that I’m depositing on the Compound smart contract for the c-ETH in my wallet might be seen as a trade. This [compliance standard] is unknown,” Scalia said, pertaining to the lending platform Compound, which uses synthetic crypto assets. “You need to be ready to say, ‘Here is all the smart contract activity and transactions that led to the creation of this synthetic asset.’”
CoinDesk reached bent the team at MakerDAO, DeFi’s hottest loan platform, about the accounting challenges presented by leaderless services and can update the article if we hear back.
In part because the accounting requirements are so unclear, a Credit Karma survey found just 0.04 percent of usa citizens reported their crypto transactions in their 2018 taxes, compared to an estimated 4 percent of the population saying they used crypto. this is often expected to vary since the IRS issued a crypto-oriented guidance update in 2019.
Pack, Scalia and Woodward all agreed tax reporting may be a major barrier to crypto adoption. People don’t skills to use the technology without the headache of such a lot paperwork. As such, these startups see their role as enabling subsequent wave of mainstream, compliant usage.
“My thesis is that within subsequent few tax seasons, the amount of [people reporting crypto on their taxes] are going to be 100 times larger,” Dragonfly’s Pack said. “That hasn’t even been factored in yet. … i feel deciding the way to [definitively] do accounting for DeFi remains several years out.”