80 MicroCap Review Magazine www.stocknewsnow.com

Digital Currency 101 Key Considerations to Help You Lay the Groundwork for Success

F E AT U R E D A RT I C L E

n BY ROBERT GRAHAM, CPAAND JOSHUA SANTOS, CPA

trade 24 hours a day 7 days a week.

keY details for measuring

Your digital currencies at

historical cost:

• You may conclude that it’s necessary to report digital currencies at cost in accordance with existing GAAP. Tracking the historical cost of invest-ments in digital currencies can be complex. For example, an entity could directly exchange bitcoin for ethe-reum with a counterparty and there would not be a fiat currency to bench-mark the transaction price.

• Tracking historical trades can be a time consuming process depending on the technical resources available and whether the company is engaging third party specialists that can extract trading data efficiently and accurately from digital currency exchanges.

What should mY companY

consider When deVeloping

accounting policies?

Knowing which questions to ask will help keep your company compliant. Be sure to consider the following: • You’ll want to address significant

events including hard forks and air drops. A “hard fork” is a dramatic change to the protocol that validates or invalidates previous transactions. An “air drop” is the process under which cryptocurrency enterprises distribute digital currency to users’ wallets free of charge. For example,

While regulatory and accounting uncertainties remain, under-standing critical aspects of the

rapidly evolving digital currency landscape before you invest will help keep your busi-ness compliant.

What should i keep in mind

When it comes to account-

ing for digital currencY?

There’s no one-size-fits-all approach when it comes to accounting for digital curren-cy. The lack of guidance under generally accepted accounting principles in the United

States (“US GAAP”) makes it challenging to navigate without the ongoing support of an advisor. Companies investing in or holding digital currencies in their business must resort to applying existing GAAP by analogy to their digital currency transactions. This indirect approach is both time consuming and mentally taxing when trying to under-stand the underlying transaction to select the appropriate accounting treatment. A key consideration is whether to measure digital currencies at fair market value or historical cost for financial statement presentation.

considerations for mea-

suring Your digital cur-

rencies at fair market

Value:

• Entities who qualify as investment companies will be required to record digital currencies at fair value. This can be challenging considering there is no active clearinghouse or regu-lated exchange. As such, there are varying market prices across multiple markets at any one point in time.

• Under the fair value framework, con-sider if there are markets that are regarded as having active trading volumes for estimation of fair value. This may be challenging for newer or less popular digital currencies.

• Your company will need to develop accounting policies in accordance with GAAP to identify a principal market to value digital currency transactions. Keep in mind that there is no formal closing price in the digi-tal currency markets as they typically

(Reprinted from MicroCap Review Magazine Fall 2018)

MicroCap Review Magazine 81www.stocknewsnow.com

a hard fork occurred on August 1, 2017 when the bitcoin network was modified so that certain participants continued using a pre-modified soft-ware which continued as the bitcoin network and other participants began using a modified network known as the bitcoin cash network.

• Following a hard fork or air drop such as the bitcoin network, holders of the digital currency tokens typi-cally receive a new token simply as a result of holding the original digital currency.

• Financial statement classification of digital currencies will depend on how your company employs digital cur-rencies. You’ll need to explore digital currencies as financial instruments, inventory, intangible, assets, etc. to determine what works best for your organization’s financial statements.

What details should i be

aWare of When it comes to

planning for income tax

for digital currencies?

Many traders use multiple exchanges to trade and move digital currencies. Come tax time, this can complicate record keep-ing. There are plenty of websites available that allow traders to import trading activity directly from the exchanges they use, and traders can download a tax form directly from the website. It’s important traders keep track of trading activity and the exchanges they use to ensure returns are filed correctly. The IRS was successful in collecting the information from over 14,000 Coinbase.com accounts in 2018 and appears to be keeping a close eye on digital currency trading activity. Laying the foundation for accurate reporting will help you get tax season-ready and avoid unwanted surprises. For tax purposes, you should be aware of the following: • In 2014, the IRS stated digital cur-

rencies are treated as property for United States federal tax purposes.

Therefore, general rules for property transactions apply.

• Companies who pay contractors or service providers in digital currency should issue Form 1099 for the value of digital currency paid for values in excess of $600.

• The character of gain or loss from the sale or exchange of a digital currency depends on whether it is a capital asset in the hands of the taxpayer. However, digital currency trading activity does not qualify for like-kind exchange treatment in the eyes of the IRS. Therefore, most taxpayers should pay capital gains taxes similar to how they pay taxes on stock trad-ing activity.

• In response to this emergence and outdated guidance from the IRS, the “AICPA Virtual Currency Task Force” developed a list of frequently asked tax questions and their suggested answers to those questions.

• Accurate record keeping is crucial. Websites will only use the informa-tion downloaded or manually added and it is rare that websites provide a complete tax form without manual input and possibly manipulating the information.

What safeguarding tips

should i keep in mind?

“As with any fast-paced, emerging technol-ogy security gaps form. Hackers and mali-cious actors are constantly looking for new ways to gain access and steal virtual assets. There are certainly best practices that you can add to your toolbox, including hardware wallets and two-factor authentication; how-ever, there is no singular step and repeat pro-cess. Cyber security in the digital currency space requires ongoing monitoring from expert advisors who understand your busi-ness’s unique needs given a myriad of factors from your industry to your overall business structure,” says Jacob Lehmann, Managing

Director of Friedman CyZen. If you are interested in learning more about how you can get cyber-ready before you invest in digi-tal currency, contact Jacob at JLehmann@friedmancyzen.com or 212-897-6422.

If your company is contemplating using or investing in digital currencies, you should engage knowledgeable professionals in the industry to help you navigate the regulatory, cyber security, legal and accounting land-scapes as they continue evolving. n

About Robert Graham:Robert Graham, a partner at Friedman LLP, is the Firm’s Digital Currency Practice Leader. He has over 10 years of experience serving clients in a range of industries, including digital currency/fintech, telecommunications and technology, con-sumer & industrial products and life sciences. Bob specializes in helping private companies go public. Robert has an extensive concentration in the digital currency industry and has an in depth knowledge of the accounting issues that companies in this industry face. Robert also has developed expertise in the issues private companies face as they go public. This includes analyzing complex equity instruments involving preferred stock, convertible debt, war-rants, share-based compensation and other financial instruments.

About Joshua Santos:Joshua Santos specializes in providing audit, tax and accounting services to clients in the Digital Currency industry at Friedman LLP.  Joshua helps clients with the adoption of complex accounting policies and supervises audit, review and compilation engage-ments, culminating in the issuance of financial statements, and prepares corporate, partnership and individual tax returns.

About Friedman LLP:Friedman LLP has been serving the accounting, tax and business consulting needs of public and private companies since 1924. Our industry-focused practice features concentrated areas of expertise and understanding of the economic environment. We have the ability to be innovative in our approach, act quickly in our decision-making and be flexible in our delivery of services. Our clients have the advantage of working with a mid-size accounting firm that com-bines the staff and resources of a large firm with a philosophy of personal responsibility for our clients.

For more information please visit: www.friedmanllp.com

Note:: This article  is informational in nature and should not be construed as providing individualized investment advice.  Investors are advised to conduct their own research and due diligence or seek the advice of a registered investment professional. Both the Author and Ridgewood Investments disclaim any liability from the use or misuse of this information.

(Reprinted from MicroCap Review Magazine Fall 2018)