The cryptocurrency world is becoming extremely popular, as many people are getting more and more interested in digital currencies. This is largely because of the increased amounts of interest that digital currency has raised as its uses have become more realized.
Although different governments, central banks, and other financial institutions are still looking for ways to understand and regulate cryptocurrency, investors are making some huge benefits from the trading of crypto.
Regardless of the benefits, there are still some risks associated with crypto trading, including legal risks.
Digital currency is not the same as the normal, fiat currency as it cannot be physically handled and transferred in-person between parties; it’s decentralized nature also makes it difficult to regulate. The result is that there are upcoming and current legal implications and concerns associated with using digital currencies.
In this article, we will be addressing some of the legal risks involved with investing in cryptocurrencies.
Property or Currency
One of the major legal challenges of cryptocurrency investment is it’s present position in various countries. According to the United States IRS, cryptocurrency is seen as holding a currency. So, as far as cryptocurrency is concerned, investors are charged capital gain tax by the IRS when filing their cryptocurrency profit and expense in their tax returns. This filing information is important regardless of where they purchased the crypto.
This current situation is quite confusing and complex for the American taxpayers. It doesn’t end there, however, as there’s even more confusion as investors who bought their digital currencies on Forex. Cryptocurrency investors wade into a dark pool as they do not know if they will face more reporting measures when it comes to tax reports. According to a CNBC report, people who have over $10,000 overseas are required to fill out their Report of Foreign Bank and Financial Account report with the Treasury Department yearly. The Foreign Account Tax Compliance Act also requires some United States taxpayers to detail their abroad accounts on Form 8938 while filing their tax returns with the IRS.
There is also an uncertainty with how crypto investors will be treated regarding their tax of digital investments. This is because some jurisdictions consider it as assets while others see it as a currency. According to the former federal tax prosecutor Kevin F. Sweeney, foreign cryptocurrency exchanges will compromise tax matters for the United State cryptocurrency investors. He explained that the lack of guidance from the IRS on digital currency tax has created a black hole for both investors and tax professionals.
In his statement, “It would seem very unfair if they expected taxpayers to know it – and then issue penalties for taxpayers who didn’t do it – even when physicians required FBAR 100%.” As well, value added tax or sales may also be added to buying and selling of cryptocurrencies. So, investors based on their country and jurisdiction should get due advice regularly to know the tax status of their investment in cryptocurrencies. However, laws and regulations regarding crypto investing are still unclear in many countries.
Crypto investors should also be careful to follow the directives of tax professionals when it comes to reporting their crypto transactions as the rules are changing. What was allowed last year or month may not be allowed this time as government understanding of cryptocurrencies is constantly changing.
Decentralized Status
The decentralized nature of cryptocurrencies makes it very risky for investors. The Bitcoin digital decentralized peer-to-peer status is rubbing off fast on other coins. Bitcoin’s decentralized status means it is not under any governing body or authority. However, there have been various actions by the government to regulate the system but it has proven incomplete at best.
This is good news for investors because, hypothetically, they don’t have to answer to any government agency. Yet, there are still regulations depending on location. This also leads to some legal issues as the value of these cryptocurrency is dependent on the value that other investors and owners give them. In other words, the value of the currency is determined by the value other market participants put on them by their transaction. This applies to all cryptocurrencies, whether digital or fiat. The actual value of the currency is changing, so this makes reporting on earnings from the currency challenging.
In the absence of a central regulatory body over bitcoin and other digital currencies, investors may lose greatly if any complication arises with transaction or ownership. Loss of confidence in trading may also bring about a reduction in trading activity which will result in an abrupt drop in value. Another problem with the decentralized nature of crypto is their transaction receipts. Since it is not backed by a central bank, there is unlikely to be a trusted party involved in the creating and settling of debt claims.
The frequency of legal confusion between various parties in the crypto ecosystem continues. It also makes it difficult to solve any of these problems legally depending on geography.
Business Registration and Licensing
Business registration and licensing are one of the necessities required for a business to legally function in a country. Now, there are some businesses that are currently accepting crypto payment for goods and services offered. Like other financial requirements, businesses may also be required to register and obtain a license for a particular activity or sales. But this can be challenging with crypto, since cryptocurrencies have unclear legal status, making it difficult for businesses to state all their earnings reports while in the crypto market.
For instance, companies that function solely on crypto do not need to obtain legal docs in some places. But they may be asked to provide some special documents depending on their business, which is not always clear. The responsibility for legal procedure lies on the managers and business owners to ensure that they go through the right legal process for their operations at both the local and state level. However, as mentioned, what the right legal process is may not always be clear.
Also, most financial institutions have to abide by some certain protection measures to fight against money laundering, fraud, fund transfer and more. These factors should also be considered by businesses that deal with cryptocurrencies.
Fraud and Money Laundering
It is no news that crypto trading is now a new way for criminals to engage in money laundering, frauds, theft, etc. Investors who fall victims to these crimes may not have the backing of any legal authority as with when using the traditional currency, due to the decentralized nature of cryptocurrency. Cryptocurrency trading platforms have a large range of unregulated activity and there is limited transparency with their operations and transactions, which makes government intervention challenging.
When a crypto exchanging platform is breached, the stolen coins cannot be recovered as there are no standard recovery measures. Investors, as such, are not compensated for suffering a great loss. So, buying and holding digital currency is a high risk for investors. This is why most crypto developers are developing measures where investors can hold their coins securely without the fear of theft.
New wallets are being introduced from time to time by exchange platforms so that there can be increased cryptocurrency transaction monitoring. Cryptocurrency exchanges are also enhancing their security systems, but investors are still unable to completely avoid the risk of crypto investment, and they may not for a long time.
Conclusion
Since the population in digital currency is increasing daily, there is a rise in the need for investors and regulating bodies to understand the legal implications of cryptocurrency. Although businesses are making lots of income from digital currencies, they are advised to get due knowledge of their stance when it comes to digital currency earnings and tax payment.
Fortunately, this article has highlighted most of the legal risks associated with digital currency. Tax professionals should also strive to inform investors about new regulations regarding digital currency to avoid being a victim of misinformation, but investors also need to understand the risks they are taking.
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