The rapid development of the crypto asset industry (aka cryptocurrencies) has led to debate on appropriate accounting treatments. This article will focus on IFRS definitions but other GAAPs are similarly applicable.

The recent and upcoming regulations from international jurisdictions are commonly dividing crypto assets into various categories depending on the nature of the coins, but accounting authorities are slow to follow suit in providing official standards or guidance.

The majority of market commentators are concluding, for investors and other financial statement users, that the most meaningful valuation approach for bitcoin and other crypto assets is at fair value through profit and loss, before considering which accounting standard to invoke.

Articles and discussions recently state that crypto assets do not meet requirements for any IFRS asset classifications other than as intangible assets. This is a major oversight, with unjustified assumptions, on the application of the definition of intangible assets to crypto assets and indicates a possible lack of understanding of the technology.

As a matter of economic substance behind the behaviour of the assets, and in providing meaningful information to the users, the revaluation model under the intangible assets standard is not appropriate.

What is an intangible asset?

Under IFRS, an intangible asset is defined simply as a “non-monetary asset without physical substance”. While the IFRS definition of “asset” could be explored to assess applicability, first crypto assets can be evaluated to determine if they meet the lack of physical substance and non-monetary features.

Articles have jumped to conclude crypto assets lack physical substance, and are non-monetary assets, without detailed information on how this verdict was achieved. It is more complicated than at first glance to assume a blockchain is intangible.

Are crypto assets monetary assets or non-monetary assets?

Intangible assets require them to be non-monetary by definition. Recent reports state crypto assets are not monetary assets as they fall short of the IFRS definitions of cash and cash equivalents. This is incorrect - the criteria of monetary assets is not to meet the cash and cash equivalents requirements. Accounts receivable are monetary assets but also do not meet the definitions of cash and cash equivalents.

A monetary asset must be converted to fiat cash within a very short period. For the large majority of the market capitalisation of the crypto asset industry, there is enough liquidity to convert to fiat as quickly and easily as many “cash equivalents”. There can be issues with liquidity in the crypto industry due to large orders and crypto exchange restrictions, but matching counterparties in daily trading is largely operationally effective.

Secondly, monetary assets must also be easily quantified in a fixed fiat amount. Again, crypto assets are traded actively enough to produce market prices available daily in fiat currencies.

Monetary assets are, however, required to be "received in fixed or determinable amounts of money".

What does physical substance mean?

The determinants for “physical substance“ is not clearly defined under IFRS, with little guidance. Many assets possess touchable physical substance (e.g. a building) and many other assets obviously lack a physical substance (e.g. goodwill).

Where the distinction is less clear, IFRS states that for assets with both intangible and tangible elements an entity should use judgement to assess which is more significant. The example given is “computer software for a computer-controlled machine tool that cannot operate without that specific software is an integral part of the relate hardware and it is treated as property, plant and equipment”.

Presumably, there would be a temptation to compare accounting for computer software to blockchain technology. As an analogy for crypto assets, it is not particularly relevant given the systemic differences between a blockchain and computer software. A tenuous comparison could anyway be that one bitcoin is part of the Bitcoin network - an integral part as it is just part of the entire (integral) network. Later the “physical substance” of a blockchain is discussed.

Physical substance similarities

Equity

Equity shares are financial instruments under IFRS and are classified as a current asset.

The physical substance of a share in a company is taken for granted but buying one share in a company does not result in receipt of a touchable item. A share was previously in the form of a physical certificate, but this is now not the case. The historic pathway of this asset originally taking physical form cannot convincingly be the reason for physical substance.

The share in the company is a portion of an asset with some kind of physical substance. However, the physical substance of a company is not obvious, such as seeing and touching inventory. The company headquarters can be touched, but that is not the company. To borrow a term from the crypto world, a company’s tangible existence can be understood to have a decentralised physical substance made up of a number of components.

Crypto assets are mined (process of verifying transactions and creating new tokens) around the world using an immense amount of computing equipment and electricity. The blockchain exists as a complex cryptographic network. For most networks, crypto transactions are permanently and publically recorded. These factors combine to build an appreciation of crypto assets and their associated network to hold decentralised physical substance.

Cash

Cash now is mostly held digitally without the requirement for bank notes to be printed. Bank notes are just promissory notes or transferable IOUs.

Crypto private keys can be written down physically on a piece of paper. This could be traded for the equivalent fiat market value. In fact, recently a physical banknote of bitcoin has been launched by Tangem – suddenly they can be understood as tangible! This is not possible for most intangibles assets; goodwill cannot be written down on paper and sold, a logo or customer list can be written down on paper but selling the paper does not transfer the usage rights. This crypto asset ease of transferability is a similar characteristic as seen with equity shares or cash.

Accounts receivable

Accounts receivable clearly meet the definition of lacking physical substance. It is argued they differ from intangible assets, as their cash value is very easy to identify (despite complications affecting this value, such as credit risk and data accuracy).

Under that logic, crypto assets also differ from intangible assets as the cash value at valuation date of crypto assets is easily identifiable using market data.

A wider interpretation of intangibles

This idea of a decentralised physical existence cannot be applied to the typical intangibles, such as goodwill and patents (the asset is the exclusive rights to the tech, not the tech itself).

Crypto assets carry the following characteristics that are unlike most, if not all, intangibles:

Traded on exchanges

Can be accepted as payments for goods and services

Subject to significant volatility (in fiat equivalents)

Ease of transferability

Divisibility

There are no intangible rights transferred on the purchase of a bitcoin, just an ownership of the asset.

The owner of a typical intangible asset holds the entire asset, which cannot be divided. Entity A and entity B cannot own 20% and 80% respectively of the same goodwill. The is unlike crypto assets - an entity holds an arbitrary amount of bitcoin, being a fraction of the entire Bitcoin network.

Future

Securities regulations

The Swiss Financial Market Supervisory Authority released regulatory guidelines splitting crypto assets into three non-exclusive categories. These designations, and the given comparisons to traditional assets, may provide a pathway to determining the most relevant accounting treatment and could result in alternative treatments for different types of crypto assets:

1. Asset tokens: described as analogous to equities, bonds or derivatives and treated as securities by the Swiss regulator.

2. Payment tokens: tokens used for payments of goods and services that are comparable to cash.

3. Utility tokens: provide access digitally to an application or service, unlike traditional asset characteristics, and are not treated as securities.

Other countries, such as Bermuda and Malta, are in the process of releasing guidance to test if tokens should be treated as securities or not. The SEC has suggested that all tokens could be considered as securities. Although some states are offering differing opinions such as the Wyoming House of Representatives recently passing a bill, under approval, stating some utility tokens are exempt from security regulations.

Accounting treatment

The crypto and accounting industries are calling for a guidance from accounting standard setters – including from the Institute of Chartered Accounts in England and Wales and the Australian Accounting Standards Boards. The setting of the standards will be important and the right parties must be involved in the process.

The automatic assumption that crypto assets are both non-monetary and intangible is potentially a worrying signal of a lack of understanding of the technology behind Bitcoin and other crypto networks.

Determining the most suitable accounting treatment requires an in-depth knowledge of the technology. A simplistic learning of blockchain just as “a decentralised ledger underpinned by cryptography” is inadequate to truly understand the future landscape and the behaviour of this new asset class, which is necessary to determine the correct accounting treatment. Audit firms and standard setters should consult with crypto experts, such as miners, as part of the process.

Conclusion

Crypto assets have characteristics unlike that of intangible assets and have a decentralised physical substance similar to the conceptual understanding of equity shares and cash. At the very least, crypto assets should be undefined as a tangible or intangible.

Formal guidance is required from authorities on the appropriate accounting treatment for the different types of crypto assets. The current standards are not suitable to apply to bitcoin or other crypto assets, and forcing them into existing standards built for other purposes is unreasonable. The lack of attention given to crypto asset accounting by authorities is unsustainable.

A deep and technical understanding of crypto technology by the standard setters and market commentators is required to debate the correct accounting treatment and to set standards appropriately.





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