Institutionalization Cryptoassets

Institutionalization
of cryptoassets
Cryptoassets have arrived. Are you
ready for institutionalization?
November 2018
kpmg.com
Foreword
Cryptoassets (or crypto) have garnered significant attention from the media, financial
analysts, governments, regulatory institutions, and investors over the last year and a half.
Crypto is defined broadly as digital units of account in which cryptographic techniques
are used to regulate the generation and distribution of units on a blockchain. In
practice, crypto means multiple things to different people: an investment asset class
Kiran Nagaraj like commodities, a store of value like gold, a legitimate medium of exchange, a covert
Managing Director, KPMG method of exchange, an immutable record of rights and ownership, or even an incentive
mechanism like rewards points.
In this paper, we use crypto to refer to all cryptoassets. Cryptocurrencies, security
tokens, and utility coins are different types of cryptoassets. Some of these terms may
be used interchangeably, particularly where concepts are applicable broadly to all types
of assets, tokens, and coins.
Cryptoassets have potential. But for them to realize this potential, institutionalization is
needed. Institutionalization is the at-scale participation in the crypto market of banks,
Constance Hunter broker dealers, exchanges, payment providers, fintechs, and other entities in the global
Chief Economist, KPMG financial services ecosystem. We believe this is a necessary next step for crypto to
create trust and scale.
This paper provides an overview of the crypto market, introduces the emerging
tokenized economy, and identifies the key challenges to the adoption of crypto in the
global financial services ecosystem. We also introduce KPMGs Cryptoasset Framework
to help address these challenges. The framework underpins KPMGs crypto capabilities
that have been developed through our work with crypto exchanges, start-ups, and large
financial services organizations.
Judd Caplain
At KPMG, we are focused on helping organizations build the infrastructure and
Global Banking and
capabilities required to scale crypto.
Capital Markets Leader,
KPMG
Acknowledgements
We would like to thank Coinbase and its leadership team
for contributing to this paper. Their knowledge, expertise,
and efforts in the crypto space are helping to propel the
industry forward.
We would also like to thank Fundstrat Global Advisors and
Morgan Creek Digital for their insights on cryptoassets and
their contributions to this paper.
We look forward to continue working together with our
clients and partners in this exciting space.
© 2018 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent
member firms affiliated with KPMG International Cooperative (KPMG International), a Swiss entity. All rights reserved.
The KPMG name and logo are registered trademarks or trademarks of KPMG International. NDPPS 775054
Contents
04 Cryptoassets are
a big deal
12 Key challenges
facing
institutionalization
of crypto
34 Crypto economics
Are cryptoassets
06
truly currencies?
The case for
crypto and
Compliance History of currency
with regulatory innovation
obligations
Examples of crypto
Creative
use cases
Fork management destruction and
and governance the value of
Advancing the
bubbles
tokenized economy
KYC and
cryptoasset
The economic value
Creating an provenance
of cryptoassets
open financial
system and why Securing
institutionalization cryptoassets Becoming a full-
is key fledged asset class
Accounting and
32 38
financial reporting
KPMGs Cryptoasset
Summary
Framework
Tax implications
By KPMG By Coinbase By Coinbase and KPMG
member firms affiliated with KPMG International Cooperative (KPMG International), a Swiss entity. All rights reserved. Institutionalization of cryptoassets 3
Cryptoassets are worth paying attention to. In 2017, we saw crypto
competing against financial products for investment dollars across
the traditional asset classes of stocks, bonds, commodities, and
derivatives. The parabolic rise in market participants, coins, prices,
and market capitalization is still dwarfed by traditional asset markets,
however, which are more than $300 trillion globally. Nevertheless,
crypto continues to garner both good and bad press, and the
debate between supporters and detractors is far from settled. In
2018, we are seeing a wave of new entrants in the market such as
security token platforms, stablecoins, and even established financial
services institutions that are launching crypto products and services.
Cryptoassets are now impossible to ignore.
Bitcoin Market capitalization Retail participation Institutional participation
The largest crypto by The total market Coinbase users grew by Major financial services
market capitalization has capitalization of crypto is 100,000 during the institutions, such as
estimated at $211B. 2017 Thanksgiving
2
experienced an Fidelity, are launching
exponential increase in weekend alone.3 crypto products and
value since 2009, The number of users on services.5
trading around $6,583 crypto exchange platforms
per Bitcoin as of is estimated to be greater
than 30M.4
1
September 30, 2018.
Cryptoassets Fundraising Financing Security tokens

There are now more than Initial coin offerings (ICOs) Venture capitalists have tZero obtains letter of
2,000 cryptoassets,3 have raised $5.4B in already invested $3.9B intent for sale of
which include newer 2017. In 2018, ICOs in blockchain and crypto $160M worth of
types of assets, such as have already raised a companies in 2018.7 tZero security tokens.8
staggering $14.2B
6
stablecoins.
as of August 29, 2018.
1
Source: Coindesk, Bitcoin (USD) Price (September 30, 2018)
2
Source: CoinMarketCap, All Cryptocurrencies (October 17, 2018)
3
Source: CNBC, Coinbase adds 100,000 users after CME announces bitcoin futures (November 3, 2017)
4
Source: KPMG, Cryptoasset Services, Market Research (October 2, 2018)
5
Source: Wall Street Journal, Fidelity Says It Will Trade Bitcoin for Hedge Funds (October 15, 2018)
6
Source: CoinDesk, ICO Tracker (August 29, 2018)
7
Source: Diar, Volume 2, Issue 39, Venture Capital Firms Go Deep and Wide with Blockchain Investments (October 1, 2018)
8
Source: Cointelegraph, Overstocks tZero Signs Letter of Intent for $160 Mln Security Token Investment (June 30, 2018)
Of the more than 2,000 cryptoassets issued or
generated, many, including those with lofty valuations,
do not even have a functional product associated with
them. Further, these are also not yet currencies as we
discuss in the Crypto economics section.
Kiran Nagaraj
Managing Director, KPMG
Sal Ternullo
Manager, KPMG
So, is crypto a solution looking for a problem? No, there are real problems
in the global financial services ecosystem that cryptoassets are looking to
address. More participation from the broader financial services ecosystem,
will help drive trust and scale for the tokenized economy and help the crypto
market grow and mature.
Examples of crypto use cases

Bitcoin, which is becoming an investible asset class like unallocated
gold, has the potential to become a store of value that is natively digital,
generationally relevant, and an alternative to traditional asset classes.
Ethereum has enabled Initial Coin Offerings (ICOs) as an alternate means
of raising capital. The ICO space suffers from fraudulent activity and a lack
of governance, accountability, and investor protection afforded by regulated
capital markets. But ICOs represent an important innovation, providing
new pathways and more efficient flows for capital from a significantly
wider group of investors.
Litecoin has been used to transfer the equivalent of $99 million for less
than $1 of transaction fees9 within minutes. This transaction could have
been initiated by anyone located anywhere around the world without
the need for any intermediaries or third parties. While transaction times
were still fairly slow compared to a Visa or a MasterCard transaction, this
example represents a significant improvement compared to the speed and
accessibility of existing cross-border payment rails such as wire transfers.
Tokenizationthe creation of natively digital tokenized representations of
traditional (and emerging) assets that are issued, traded, and managed
on a blockchaincan reduce friction and overhead costs associated with
the issuance, transfer, and management of traditional assets such as
securities, commodities, and real estate assets. Cryptoassets that are
tokenized versions of traditional assets could also fit well within existing
regulatory frameworks, which may mitigate some regulatory uncertainty
surrounding newer cryptoassets. Tokenization of traditional assets could
also help increase liquidity, codify rules and regulations, and increase
transparency throughout the asset lifecycle.
The staying power of many cryptoassets will be defined by their ability
to reduce friction and inefficiencies that currently exist within the global
economy. Volatility is widely quoted as a significant limitation for the use of
crypto for any use case. While volatility is certainly a problem, it is important
to recognize that these assets are still fairly immature and will become less
volatile as they mature. There are also significant efforts that are underway
across the industry for the creation of what are called stablecoins to
address the volatility problem.
9
Source: Business Insider, Someone transferred $99 million in litecoin
and it only cost them $0.40 in fees (April 23, 2018)
Advancing the tokenized However, that does not mean that Does this token and the product
economy every token can be trusted to meet associated with it truly meet a
Cryptoassets may change the financial market needs. Trustware will be market need? Is there natural
services landscape significantly with an especially important layer for this demand?
the emergence of the tokenized economy. Unlike traditional financial
Is this better than existing
economy. While it is still early stages assets, trust will be driven not only
technologies, assets, financial
and it is hard to predict how the next by independent organizations like
products, or services?
10 years will play out, the tokenized regulators and auditors, but also by
economy will likely be one of the more technology through innovations such Is this product creating a truly
impactful innovations enabled by crypto. as consensus mechanisms. compelling user experience?
Alongside a wave of interest from Institutional participation is required What are the processes and
institutions in popular cryptoassets, to facilitate scale and increase trust controls for token acquirability,
such as Bitcoin, there has been an for this emerging economy. A single transferability, and redeemability?
increasing market focus on tokenization. institution may take on multiple roles,
As tokens evolve and their respective
Crypto products and services are but there are certain information
use cases achieve adoption, the
already starting to pivot and the global barriers that will need to be maintained.
associated infrastructure will
financial services ecosystem is also For instance, a token issuer cannot also
also improve to enable greater
beginning to retool itself for the play the role of the only trust agent for
institutionalization.
tokenized economy illustrated that issuance. While the industry is
on page 9. building infrastructure in anticipation of Todays internet leaders look different
widespread use of tokens, a greater than they did in the late 1990s or did
Products and services demand for these tokens must be not even exist when the dot-com era
Two types of products and services developed. This will happen only if began. We recognize and expect a
are emerging for this economythe products meet market needs. lot of pivots, mergers, acquisitions,
cryptoassets or tokens represented and failures that will redefine the
by the dotted lines flowing through Product-market fit crypto landscape in a few years.
the various layers in the illustration Achieving product-market fit is a Just as internet protocols like TCP/
and the infrastructure that enables the journey, and cryptoassets are in IP and HTTP enabled the sharing
issuance, facilitation (e.g., exchange promising but mostly early stages of of information in an open way, the
and custody), and utility (e.g., store of this journey. It is important for token blockchain-based tokenized economy
value, ownership, and rights) of these issuers and generators to ask some will enable the digitization, storage,
tokens. Token generation is relatively key questions about product-market fit: and trusted exchange of value.
easy, and more tokens will continue What problem is this cryptoasset or
to proliferate within the ecosystem. token solving?
The Crypto landscape and token economy
Cryptoasset/Token generation
Mining rewards ICO venues Financial institutions
Airdrops Token issuance platforms Collateralization
Financial instruments
Issuance
Derivatives ETFs Investment trusts Others
(i.e., Supply)
Regulatory classification
Commodity Security Utility Currency Unknown
Trading/Prime services Asset management Retail and payments Services

Crypto exchanges Fund advisers/Managers Payments Coin ranking sites
Decentralized Arbitrage processors Data providers
Exchanges Margin/HFT Depositories Advisory/Consulting
Atomic swaps Tax services
Custody/Administration Lending
Facilitation Liquidity providers Legal
Institutional custody
Broker-dealers Coin ranking sites
Administration
Prime brokerage
Reporting
Clearing/Settlement
Retail wallets
Trust agents
Nonprofit Self-regulatory Academic Auditors
foundations Organizations institutions
Regulators
Industry standards Consortiums/Trade Independent
groups research
Leader based
Distributed consensus (centralized consensus) Hybrid consensus
Trustware
Miners/Mining pools Designated validators Stakers
Domestic payments Ownership and rights Smart contracts/Dapps
Cross-border payments Risk transfer/Hedge Platform incentives
Micropayments Store of value Lending and financing Storage and computing

Utility
(i.e., Demand) Point-of-sale Currency conversions Digital advertising
Collectibles Rewards programs
Use cases of current and emerging cryptoassets/tokens

Incumbent Emergent
Bitcoin An ICO token A stablecoin
A Coinbase perspective
Creating an
system and why
is key
Cryptoassets create a huge opportunity to potentially
revolutionize the financial sectorto create a truly open
global financial system.
Jeff Horowitz Eric Scro

Chief Compliance Officer, VP, Finance, Coinbase
Coinbase
The current global financial system not controlled by a central bank or adoption but rather with retail
faces a number of challenges. For authoritythey are exchanged on trading. Consequently, the platforms
one, access to financial services is a peer-to-peer network that allows and products were largely built and
not guaranteed everywhere. In the anyone to access them, invest in designed with retail customers in
U.S., we have a stable store of value them, and exchange them. In addition, mind. To encourage institutional
in the dollar, banks, and payment rails the open protocol design of crypto adoption, Coinbase is building the
that allow us to purchase goods and will encourage the technological infrastructure required for large
services and the ability to transfer innovation necessary to create a fast, players to enter the space such
funds from our phones. inexpensive payment network that as a high-frequency, low latency
connects anyone, anywhere. matching engine, transparent and
Lets take the example of
efficient price discovery tools and a
Argentina, where they currently see There has also been an explosion in
qualified custodian that allows the
hyperinflation. A globally accessible, cryptoassets with a lot of innovation
safe storage of assets in a compliant
decentralized store of value could have and experimentation happening in this
manner. Institutions have a different
a significantly stabilizing impact on space. Developers continue to flock
set of requirements than retail
the countrys economy. Bitcoin could to the space to build applications and
consumers and need to see a focus
potentially represent such a store services on top of various blockchains.
on compliance, transparency, and
of value in the future. Interestingly, Within the next couple of years,
governance to comfortably use and
even though there are large price Coinbase expects to see the broader
transact with crypto. Institutional
fluctuations with Bitcoin, it is not use cases that will natively use crypto
interest is growing, and many of the
inherently volatile. The supply is in fact to democratize access to services.
worlds largest financial institutions
fixed and algorithmically secured. It Examples of current use cases being
are beginning to actively trade crypto
is the demand that is fluctuating and worked on include tokens being
or at least consider it.
this could eventually stabilize as the used for distributed file storage and
market matures. processing and even reimagining the Regulatory agencies are also
way users pay for generating and beginning to seriously discuss
Another challenge that the financial
consuming online content. cryptoassets, which could help drive
sector faces is in accessibility to
institutional participation, encouraging
payments networks. The current Blockchain technology can do for value
the marketplace to think about how
payments system has a lot of what the internet did for information.
engagement with these assets fits
inefficiencies and intermediaries that To achieve the vision of a truly open
into both existing rules and regulations
make moving money around the global financial system, it is not
and new frameworks that may be
world quite difficult because of the enough for a few hundred, thousand,
needed for crypto. The focus on
use of proprietary, bespoke payment or even million individual consumers
crypto innovation must not come at
networks that do not always interact to adopt this new technology.
the expense of security, compliance,
with one another. Why is it faster to
The path forward and consumer protection. Leaders
take out $10,000 in cash, buy a plane
Coinbase believes crypto will mature in in the crypto space, including crypto
ticket, fly to Australia, and hand the
three stages: investment/speculation entities and industry partners, have
cash to someone than it is to wire
(which the industry is currently in), a responsibility to help influence and
those funds?
institutionalization, and utility. The educate key legislators and regulators
Coinbase considers a truly open institutionalization and utility phases to advance the overall governance
global financial system as one that may happen concurrently. But, to move and enforcement framework. In many
is not controlled by any one country from investment/speculation to utility, ways, leading crypto companies
or company. As a result, it drives crypto needs to become more liquid, should aspire to meet the standards
greater economic freedom, innovation, trusted, and accessible. and leading practices established
efficiency, and equality of opportunity by traditional financial services
for the world. Institutionalization of crypto companies. We believe this will help
Unlike most other asset classes promote trust and accelerate the
Crypto may help overcome many
in the modern financial system, adoption of crypto by investors and
of the problems of the existing
crypto did not start with institutional institutional clients.
financial system. They generally are
In the following pages, we examine the
major challenges facing the crypto industry as
organizations look to introduce crypto products and
services and scale their businesses.
Compliance with regulatory obligations: A patchwork of regulations has emerged and continues
to evolve. Maintaining compliance with laws and regulations related to an array of financial crimes is
already a major challenge. Now, regulators are focusing in on crypto businesses. What are some of
the key regulatory obligations for a crypto business?
Fork management and governance: Forks occur when a single crypto blockchain breaks into
two separate chains. They have a significant impact on crypto businesses. To both decide on fork
acceptance and to continue to run effectively after a fork event, how does a business manage the
technological, operational, financial, accounting, tax, and customer relationship implications of the fork?
KYC and cryptoasset provenance: Crypto owners are identified not by names or account numbers
but by cryptographic addresses that can be created at any time, by anyone, anywhere. This presents
a unique challenge to KYC programs. How does a crypto business determine asset provenance and
build its KYC program?
Securing cryptoassets: Given the potentially high value of cryptoassets and the natively digital
nature, crypto businesses and their customers are prime targets for cyber criminals. How can a
business build a cybersecurity program for securing cryptoassets?
Accounting and financial reporting: Cryptoassets challenge traditional financial reporting

boundaries. The accounting for these assets is an emerging area, with limited industry guidance.
How should a crypto business account for crypto transactions and assets?
Tax implications: Information regarding the tax treatment of crypto remains limited. Crypto
businesses may face sizable tax liabilities incurred on the sale or exchange of crypto and
bear significant tax accounting burdens with respect to their holdings. What are the key tax
implications for a crypto business?
By Coinbase and KPMG
Compliance with
regulatory obligations
Key challenges facing institutionalization of crypto
Financial services institutions are intimately climate for crypto businesses. Here, we
familiar with the challenges the industry faces review some current regulations that apply
in order to efficiently and effectively maintain to crypto businesses:
compliance with laws, rules, and regulations,
The Financial Crimes Enforcement
including those related to investor protection,
Network (FinCEN) considers crypto
market surveillance, antimoney laundering
Jeff Horowitz exchanges money service businesses
(AML), financial crime prevention, and
Chief Compliance (MSB), which means they are subject
fraud. But how does crypto adoption impact
Officer, Coinbase to existing banking regulations like the
regulatory compliance?
AML, Know Your Customer (KYC), and
A U.S. regulatory perspective various financial reporting requirements.11
The explosion of consumer interest and KYC and cryptoasset provenance
investment in cryptoassets, in addition to below covers this in more detail.
increased participation of traditional financial
institutions in this asset class, has U.S. The Securities and Exchange
federal and state regulators keenly focusing Commission (SEC) has concluded
on the regulatory obligations of the crypto that certain cryptoassets, issued as
Tracy Whille part of ICOs, as securities under the
Principal, KPMG businesses. When cryptoassets become
institutionalized, they will likely also be Securities Act of 1933 and the Securities
traded in other markets similar to assets like Exchange Act of 1934, which means
commodities. In many cases, cryptoassets they must be registered with the SEC.
may have different regulators (e.g., SEC, Such cryptoassets will have additional
FINRA, CFTC, etc.) depending on what type requirements detailed in the Security
of specific asset they are considered. tokens section below.
The Commodities Futures Trading
Robert Virgilio Cost of noncompliance Commission (CFTC) has designated
Director, KPMG certain cryptoassets as commodities.
Regulatory authorities have not been shy
about enforcing regulations related to Crypto futures, swaps, options, and other
cryptoassets. A crypto exchange was fined derivative contracts are subject to the
$110 million for failure to detect suspicious same regulatory protocols as physical
transactions and file suspicious activity assets in this class. These regulations
reports (SARs).10 are focused on ensuring orderly
markets and protecting against market
The current patchwork of U.S. federal and manipulation. Exchanges will need to
state regulations governing the crypto continue to enhance their surveillance for
industry has created a challenging regulatory manipulation and fraud and act accordingly
if malfeasance is detected.
10
Source: U.S. Treasury Financial Crimes Enforcement Network (FinCEN), FinCEN Fines BTC e Virtual Currency
Exchanges $110 Million for Facilitating Ransomware, Dark Net Drug Sales (July 27, 2017)
11
Source: FinCEN, Administrative Ruling on the Application of FinCENs Regulations to a Virtual Currency Trading
Platform (October 27, 2014)
Organizations that trade crypto Security tokens bring Information barriers: Organizations
futures will be required to conduct regulatory challenges of operating a broker-dealer business
business through a registered will need to implement proper
futures commission merchants their own information barriers between their
(FCM) or introducing brokers (IB), Cryptoassets deemed securities broker-dealer business and other
which are regulated by the CFTC (also referred to by many as security businesses to ensure nonpublic
and National Futures Association tokens or crypto securities) material information is not
(NFA). Further, organizations are becoming an important part of misused. Additionally, they should
wanting to offer futures trading the emerging tokenized economy. develop surveillance systems to
will themselves be required to Before listing and offering trading of make sure information is not being
register with the CFTC and NFA a cryptoasset, an exchange should used to disadvantage clients or
as an FCM or IB. evaluate whether the asset is a the markets.
security. Those deemed as securities
The New York State Department may require trading to be conducted Clearing/Settlement/Custody:
of Financial Services (NYDFS) has through a registered broker-dealer The lack of a trusted end-to-end
required any entity operating in and elicit an array of securities laws, clearing, settlement, and custody
the crypto business in the state rules, and regulatory requirements. If solution for both crypto and crypto
of New York and/or with New York crypto businesses want to offer these securities is another hurdle with
residents to apply for a BitLicense. products, they will need to address regulatory implications that needs
Other states have required crypto requirements of this new asset class to be overcome. The role of a
businesses to operate under and will likely need to establish a central clearing depository and a
money transmitter laws. broker-dealer business. Below are transfer agent in providing services
some of the key requirements and such as account transfers with
Organizations that provide crypto
challenges that the industry is facing assets, delivery obligations (fail
custody services, perform exchange
related to security tokens: control) for fully paid for securities,
services, or issue crypto (virtual
and limit monitoring will need to be
currency, money transmitter, and Regulatory uncertainty: The lack of addressed for the security tokens.
exchange services) are subject clear regulatory guidance in certain
to state money transmitter areas is impacting the ability of Other regulatory requirements:
obligations, many of which require the industry to implement the Additional requirements will need
compliance with FinCENs KYC and applicable set of controls to be addressed, including client
AML expectations. The NYDFS and processes. confirmations and statements,
BitLicense builds significantly on best execution, regulatory
top of those requirements and Electronic trading of digital securities: reporting, transaction and
includes, for example, significant Security tokens are natively digital trade reporting, and audit trail
cybersecurity requirements. and will likely continue to be traded requirements, among others.
Additionally, exchanges will need to in an electronic environment. As
a result, broker-dealers will need Regulators are working to keep pace
enhance their surveillance practices
to establish electronic trading with crypto innovation while seeking
to detect possible fraud and market
platforms, or alternative trading to protect the investing public. Crypto
manipulation as regulators have
systems (ATSs), for digital securities. businesses will need to clearly
increased their surveillance of
ATSs have additional regulatory define their product offerings in
such activities.
requirements and are subject to rules order to navigate the evolving state
The Internal Revenue Service requiring strong controls and market and federal regulatory landscape.
(IRS) has issued guidance that surveillance over the clients and It is in a crypto organizations best
some cryptoassets are to be securities trading on their platforms. interest to get ahead of the evolving
treated as property and are subject Currently, there is no central regulatory landscape, and we are
to tax upon sale or exchange. repository identifying whether a already seeing organizations take
Crypto business has many tax certain cryptoasset is a security or this proactive approach.
implications to consider. not. As a result, organizations will
need to build robust processes to
determine if an asset is a security
or not (e.g., utilizing the Howey Test).
Fork
Forks are a unique aspect of
cryptoassets that occur when
a single blockchain breaks into
two separate chains. These
breaks can be separated into
management
two categories: soft forks
and hard forks (see sidebar).
Enhancements to underlying
technology, extenuating
circumstances, or even
and
philosophical differences can
lead to a fork event.
Forks have a significant impact on
crypto businesses. To both decide on
fork acceptance and to continue to run
the business effectively after a fork
governance
event, organizations must perform an
end-to-end assessment of the financial,
technological, operational, and customer
relationship implications of the fork.
Key challenges facing institutionalization Soft forks versus hard forks

of crypto Soft forks occur when the majority
of miners agree on a change to the
underlying software of a cryptoasset.
All transactions going forward are
backward compatible with the
existing blockchain, even those that
did not follow the majority. This
backwards compatibility is the key
difference between hard and soft
Adam Hirsh forks and influences the burden
Managing Director, KPMG of their implementation on crypto
businesses.
Hard forks occur when the full
network makes a significant change
to the underlying software of a
cryptoasset. Typically, all transactions
on the existing blockchain will be
recognized as of the hard forked
Agha Khan networks start date. However, any
Manager, KPMG transactions that occur after this
start date will be incompatible and,
therefore, not recognized by the
original blockchain.
Based on our experience helping organizations manage forks, here are
some key questions to consider:
Tax implication of forks
Which fork will be Both Bitcoin and Ethereum
supported by the current experienced hard forks that
What are the operational
community/network? resulted from a change in the
needs before, during, and
protocol. This led to some difficult
after a fork?
tax-related questions that have not
Will you need to suspend yet been addressed:
operations before and after
First, does any taxable income result
the fork?
from the duplication of the Bitcoin
What will happen to existing protocol? Immediately before the
How do you handle address assets in a fork scenario? hard fork, the taxpayer owned
management for two forks? one Bitcoin. Immediately after the
hard fork, the taxpayer owned one
Bitcoin and one Bitcoin Cash. The
Bitcoin Cash has value and can be
What are the What to How do we How sold for dollars. While not addressed
operational do if a soft address important is in the limited IRS guidance on
challenges of fork fails? replay it to ensure crypto, a number of practitioners
transferring assets protection? backwards believe that a hard fork is a taxable
from hot storage to compatibility event to the holder under general
warm/cold storage? of the tax principles. However, what is the
ledger? nature of that income? Is it akin to a
dividend? Does it occur at the time
of the hard fork or later when the
Successful and efficient handling of Technology and security impacts crypto is claimed?
forks requires a consistent framework Second, what is the taxpayers tax
Operational impacts
and strong governance from all basis in the forked coin? Consider,
stakeholders of a crypto business, Market risk for example, the Ethereum fork.
including front office, customer A taxpayer owning Ethereum on
Liquidity demands.
sales and trading, legal, credit and the date of the Ethereum fork
market risk, compliance, finance, tax, It is also important to note that received new Ethereum (ETH) at
strategy, operations, technology, and organizations may choose to retain the time of the fork and continued
cybersecurity. the right to determine which fork will to own Ethereum (now referenced
be used as the reference currency for as Ethereum Classic (ETC)). If
Organizations can charter a governance
portfolio pricing and valuationrights the amount paid for the original
committee to evaluate strategic and
that can be enforced on customers Ethereum remained with the ETC,
risk concerns and enable a decision
through legal agreements. In several the taxpayer would be treated as
structure for forks that will impact both
instances, crypto entities and having paid nothing for the ETH,
the cryptoasset and related products
exchanges have chosen not to support unless the taxpayer recognized
and services. To ensure consistency
trading in certain forked currencies. some gain at the time of the fork
in decision making around whether
For example, in October of 2017, or when the taxpayer claimed the
to participate and where to invest
Bitcoin Gold was created as a result ETH. As a practical matter, ETH is
to support the fork, the governance
of a hard fork from Bitcoin. There was considered the true Ethereum. If
committee should follow clear and
general disagreement and concern no tax basis is allocated to ETH in
documented policies that address:
about the technology behind Bitcoin connection with the fork, a taxpayer
Criteria for participating in a Gold and potential vulnerabilities. using ETH may have significantly
fork event As a result, the cryptoasset was not more gain than what seems
recognized or listed by many major appropriate and would not have a
Time to adoption
cryptoasset exchanges. way to recover what the taxpayer
Product and service impacts originally paid for Ethereum prior to
the fork.
KYC and Establishing a Know your
customer (KYC) program
A KYC program focuses on verifying
the identity of customers and sufficiently
cryptoasset
understanding their background and
risk profile.
FinCEN considers crypto exchanges to
be MSBs, subjecting them to existing
banking regulations related to AML,
Customer Identification (CIP), KYC,
provenance
transaction monitoring, and various
financial reporting requirements.12
Crypto businesses should look to
establish AML programs similar to
those of traditional financial institutions
and MSBs, including but not limited
to Customer Onboarding and KYC
processes, transaction monitoring for
suspicious activity, and OFAC/Sanctions
Key challenges facing institutionalization screening capabilities.
of crypto AML Compliance programs, including
KYC programs for the crypto business
customer base, are being tailored to
address the unique risks and challenges
of the crypto market. This will be
essential to detect real suspicious
activity while avoiding inefficiencies
and compliance fatigue.
The major crypto providers are actively
John Caruso looking to strengthen their AML
Principal, KPMG programs, including KYC and transaction
monitoringand if not, they should be.
This could include, for example, requiring
information about expected transactions
and counterparties, or source of wealth
analysis and enhanced due diligence
for high-risk customers. Transaction
monitoring systems should also not
Michael Pavlick
Director, KPMG
12
Source: FinCEN, Administrative Ruling on the
Application of FinCENs Regulations to a Virtual
Currency Trading Platform (October 27, 2014)31 CFR
1022.210 (Anti-Money Laundering Programs for
Money Services Businesses) (July 29, 2011); 31 CFR
1022.320 (Reports by Money Services Businesses of
Suspicious Transactions) November 4, 2016; 31 CFR
1022.210 (d)(3) (July 29, 2011); BSA/AML Examination
Ladi Ajayi
Manual for Money Service Businesses (December
Manager, KPMG 2008); See also NYDFS Part 504 (New York Banking
Division Transaction Monitoring and Filtering Program
Requirements and Certifications) (January 1, 2017).
be limited to solely monitoring fiat
transactions of crypto customers, but Counterparties in a crypto
be designed to address the unique transaction are identified not by There are still a number of open
risks of their crypto transaction activity names or account numbers but questions about how institutions
as well. by cryptographic addresses that should apply existing regulations
can be created at any time, by to crypto transactions:
Determining cryptoasset anyone, anywhere.
Are cryptoassets physical? Financial
provenance institutions are required to file a
The underlying encryption features organizations to maintain the ability currency transaction report (CTR) for
of blockchain technology can allow to identify and monitor the provenance physical cash transactions of more
for higher degrees of privacy and of customers cryptoassets, the than $10,000. Crypto by definition is
anonymity for certain cryptoassets. parties they are transacting with, and not physical, but it is still treated and
On one hand, counterparties in a their overall crypto transaction activity. used as cash by some.
crypto transaction are identified Crypto businesses can take advantage Do cryptoassets travel? The Travel
not by names or account numbers, of the underlying blockchain technology Rulepredominantly designed
but by cryptographic addresses to analyze and determine the for wire transactionsrequires
that can be created at any time, by provenance of customers financial institutions to provide
anyone, anywhere. The contrary cryptoassets. Such analysis is not certain information to the institution
to that perception, however, is in easy but can be aided by the use of accepting the transaction, but the
the blockchain itself, wherein all third-party data providers. The analysis decentralization and anonymity
addresses and their transactions can enable traceability of cryptoassets of cryptoassets may impede
involved are preserved and and identify if given crypto address compliance with the rule.
accessible by anyone, anywhere. may have been involved in foul play.
While there are ways a fraudster What about Office of Foreign
Many major exchanges have
can intentionally distort or confuse Assets Control (OFAC) and
undertaken the collection of KYC
the history of the assets (e.g., using Sanctions obligations? The OFAC is
information and are now an important
services such as tumblers or considering adding crypto addresses
source of data for the identification
mixers13), sophisticated data to its list of persons or entities that
of a large percentage of addresses
analytics could identify instances in are sanctioned or blocked from
for certain cryptoassets. However,
which these programs were used financial activity.
there will continue to remain a sizable
percentage of addresses that are and can assign an appropriate risk Do crypto trading platforms need
not exchange customers or have no rating for transactions. Using these a license? New York State requires
available KYC information. Further, data providers and other blockchain virtual currency businesses to obtain
emerging cryptographic mechanisms features, crypto businesses can start a BitLicense that set extensive
including zero-knowledge proofs to build a view of the provenance of AML, cybersecurity, and fraud rules.
(ZKP), ring signatures, and other customers cryptoassets over time. Other states have similar but less
privacy-centric approaches may impact This will also have to be balanced extensive licensing requirements. It
an organizations ability to determine with a crypto businesss need for remains to be seen if this idea will
cryptoasset provenance. protecting competitive intelligence. be adopted federally.
Standard practices around
It is important to acknowledge that a determining cryptoasset provenance
degree of anonymity does not mean (e.g., number of hops to look back
that transactions are inherently illegal within the blockchain) are yet to be
or malicious. Anonymity presents a established, and organizations will
unique challenge to KYC programs, need to consider this risk as part of
specifically the requirement for the buildout of their KYC.
13
Source: Bitcoin.com, Deep Web Roundup: Dream Adds Monero and Bitcoin Tumbler Chip Mixer
Launches (January 30, 2018)
Securing Security is front and
center for cryptoassets,
given the heightened
cyber risk associated
cryptoassets with them.

Since cryptoassets are natively
digital and often have high value,
crypto businesses that transact with
these assets are prime targets for
cyber criminals. If hackers breach an
organizations crypto infrastructure,
Key challenges facing institutionalization they can transfer crypto out to external
of crypto addresses, leaving the organization
with little or no recourse. Crypto
transactions also occur over the open
internet, which makes both the tokens
and any associated services vulnerable
to a variety of traditional cyberattacks,
such as a phishing or malware attack.
Further, even organizations that do not
have any crypto operations are now
Kiran Nagaraj
targets for hackers who are looking to
Managing Director, KPMG
steal computing power that they can
use for crypto mining.
As part of our crypto research work,
we have analyzed many cybersecurity
incidents that have impacted crypto
exchanges in the past few years. The
attack vectors and root causes span
a wide spectrum. Examples include
Sam Wyner auditor account compromise, server
Manager, KPMG failure due to DDOS, unencrypted data
stores, phishing attacks, smart contract
bugs, software vulnerabilities, order
sequencing issues, security update
failures, and poor wallet tiering among
others. Most, if not all of these, are not
new and unique for the crypto space.
It is clear from these that lessons
learned from decades of security and
Anderson Salinas risk management experience with other
Manager, KPMG traditional and emerging technologies
are still applicable.
In addition, a number of leading crypto Blockchain threat monitoring Blockchain monitoring should also
security practices have emerged in Many cryptoassets rely on public include the use of geographically
the last two to three years including decentralized blockchain networks, dispersed nodes. These nodes can not
crypto address whitelisting for warm which are not directly under the only enable monitoring of the status of
storage, geographic distribution of control of a single organization. Miners the network globally, but also provide
Hardware Security Module (HSM) or groups of miners (mining pools) the ability to better monitor the source
keys, sharding, and many others. typically provide the hashing power that of transactions being submitted to the
There is a need for crypto-specific collectively control these networks. network.
security standards that complement This makes blockchains vulnerable to Organizations will also need processes
existing security frameworks such a bad actor that gains majority control for actively responding to the threat
as those published by NIST and ISO. of mining nodes, since the majority information collected by these
While some efforts are now underway determines which transactions are blockchain-monitoring capabilities.
across the industry to develop these, valid. As of August 2018, the top four They should consider which threat
crypto businesses should look to Bitcoin mining pools control around metrics should be integrated into
build their cybersecurity programs by 54 percent of the total hash power of their existing risk reporting processes
starting with a baseline from existing the network.14 There was even a period to drive faster decision making. This
industry practices and then add-in of time in 2018 when a single mining information could also help drive
crypto-specific security practices to pool represented more than 25 percent business decisions around which
provide a layered defense model. of the hashing power for Bitcoin. This cryptoassets to continue supporting.
While specific crypto security practices represents a concentration risk.
are confidential and vary greatly Businesses, therefore, need to build
Key management and
from one crypto business to another, sufficient blockchain monitoring tiered storage
some leading industry approaches are capabilities to proactively identify Cryptoassets are typically stored in
emerging. We discuss some of them such threats that could impact hot and cold storage facilities. Hot
in this section. their operations and client assets. storage facilities afford more liquidity
14
Source: BTC.com, Pool Distribution (August 2018)
Multi-signature mechanisms
can be significantly different
across cryptoassets. Ethereum,
for example, has a notably
different and more complex
default implementation of multi-
signature mechanisms than
bitcoin does.
but are also more susceptible to hacking. Cold storage that the key recovery features do differ across the
facilitieswhich are physically offline and disconnected various cryptoassets and the underlying protocols. These
from the internetare the least liquid but more secure. differences will also need to be factored in part of an
In some cases, warm storage facilities are used to organizations key recovery strategies.
provide temporary storage of assets as an additional
layer of security before assets are moved to cold storage. Wallet code review
In an incident last year, a vulnerability found in the Parity
To protect client assets, organizations should keep only wallet for Ethereum allowed remote ownership of the
enough crypto in hot storage to facilitate daily business multisig function of the wallet, giving full control of funds
operations. The majority of crypto should be kept in to the hacker that led to the loss of $300 million equivalent
cold storage. In addition, organizations should develop of Ether.15 Today, many crypto businesses use open-source
specific operational procedures to facilitate the movement code, allowing extensive code review by the community
of crypto between cold and hot storage and mitigate the and increasing trust in systems, but vulnerabilities are still
risk of collusion. constantly being discovered. Organizations that choose to
Organizations should also create a crypto-specific use open-source software for their crypto infrastructure
team staffed with personnel who have been trained on should look to further independently review the source code
how to deal with this specialized asset, including with to identify risks relevant to them. They can also consider
respect to internal policies for managing the storage and customized implementations of the base software for certain
the processing of crypto transactions. This team should components of their crypto infrastructure such as wallets.
also verify and confirm clients on-chain transactions by
Protecting competitive intelligence
comparing internal transaction details with the clients
Asset provenance presents an interesting two-sided
blockchain records and wallet details.
challenge for cryptoassets. On the one side, crypto
Resiliency and recovery of keys businesses have a need for KYC and cryptoasset
Cryptoassets typically utilize Public Key Infrastructure (PKI). provenance. On the other side, crypto businesses also
PKI has always presented challenges for resiliency and have a need to safeguard competitive intelligence data
disaster recovery, but those challenges are magnified for that may be leaked through the blockchain.
crypto operations, which are thoroughly dependent on the In traditional asset classes, market activity and
availability of public and private keys to transfer assets. transactions are by and large not publicly available. This
Organizations managing key pairs will need to develop information, if publicly available, could be used by market
resiliency and disaster recovery plans for securing private participants and competitors for a variety of purposes
keys within each storage tier and for each type of crypto. including, arguably, market manipulation. But with
However, traditional techniques, such as the use of HSM, cryptoassets, all transactions are posted to a publicly
may fall short, given the physical dependence on the accessible, immutable ledger. With the use of advanced
HSM. A destroyed or unavailable HSM could mean lost data analytics and asset provenance capabilities, a third
or unavailable cryptoassets. In addition, other traditional party may now be able to monitor the blockchain, attribute
resiliency techniques, such as high availability, either transaction activity to a crypto business, and gain important
compromise security or are simply not technically possible competitive intelligence about that business. The third party
for an air-gapped cold wallet. may also use this data for various other purposes including
market manipulation.
Multisignature systems and third-party wallets enable
organizations to secure private keys while enabling Despite the benefits provided by being a public
resilience across storage tiers. Using a multisignature immutable ledger, blockchains also create this risk for
system can allow organizations to split up keys or require crypto businesses by allowing competitors or third-party
multiple signatures from separate keys to complete a observers to track some of their business activity. Crypto
single transaction. This also helps drive segregation of businesses may therefore need to have a clear strategy
duties and limit potential collusion. to obfuscate their own activity that is posted to the
blockchain while, at the same time, providing the ability for
Organizations managing their own private keys should themselves (and their competitors) to be able to determine
also expand their existing business continuity and asset provenance. It is also important to regularly review
disaster recovery plans to include their cryptoassets and update this strategy to keep up with bad actors and
and related systems. It is also important to recognize technology advances.
15
Source: CoinTelegraph, Parity Multisig Wallet Hacked, or How Come? (November 13, 2017)
By Coinbase and KPMG
Accounting
reporting
Key challenges facing institutionalization
of crypto
Jennifer Jones
Chief Accounting Officer,
Coinbase
Samuel Jeffery Brian Fields

Partner, KPMG Partner, KPMG
Cryptoassets challenge traditional financial reporting
boundaries. The accounting for these assets is an
emerging area and, so far, neither the FASB nor the
IASB have provided specific accounting guidance. As
the technology continues to evolve, it may not always
be clear how to apply accounting requirements to
these transactions.
Cryptoassets like Bitcoin may are only limited circumstances in To accurately value crypto that is
exhibit certain characteristics of which U.S. GAAP currently supports received in exchange for goods or
assets covered by different accounting this, such as when bitcoin is held services, a company may need to
codification topics. For example, some as an investment by an investment seek the expertise of specialists and
have suggested that Bitcoin is akin company.16 In other circumstances, use judgment. While Bitcoin currently
to traditional currencies like those indefinite-lived intangible assets trades regularly and in high volume,
backed by sovereign governments. are not amortized, but are required this may vary for other digital assets.
Others view Bitcoin as a commodity, to be recognized and measured at It may be necessary to evaluate and
such as digital gold. Under Generally their historical cost; impairment is consider information from many
Accepted Accounting Principles in recognized when their carrying sources to determine the fair value
the United States (U.S. GAAP) as amount exceeds fair value. The of cryptoasset holdings.
written today crypto would generally subsequent reversal of previously
The recognition and derecognition
meet the definition of an indefinite- recognized impairment losses is
of cryptoassets is generally based
lived intangible asset because they prohibited.
on the concept of control. That is,
do not convey specific rights to cash
Also important is that each asset crypto is recognized as an asset
or ownership in a legal entity in the
needs to be evaluated based on its when control over that asset is
same way as financial instruments.
specific characteristics. For example, obtained and derecognized when
Some have noted that the accounting as interest in crypto has grown, so control is lost. When evaluating the
guidance for intangible cryptoassets have the number of intermediaries transfer of control and ownership,
was not written with crypto in mind. that allow the purchase, sale, and it may be important to consider
That is true. While we believe many custody of these assets. In some the relevant legal environment,
cryptoassets fall within the scope of cases these holdings may represent especially in situations that are more
those standards based on the specific direct ownership of a crypto held complicated than a simple sale (e.g.,
rights conveyed, this is an innovative in custody by a counterparty, while a transaction that involves ongoing
and emergent area that could benefit in others they may simply represent custodial services by the seller). For
from reexamination by standard a contractual right that could be a crypto, this evaluation may require
setters. financial contract (i.e., a loan receivable special attention to legal issues,
tied to the value of crypto). Similarly, which is complicated by the fact that
Recognition and derivative contracts such as forwards, case law is only beginning to develop.
measurement futures, and investments in funds
While many believe cryptoassets that hold interests in cryptoassets
like bitcoin would be better measured would generally be accounted for
at fair value each period, there as financial instruments.17
16
Source: ASC 946, Financial ServicesInvestment Companies
17
Source: ASC 815, Derivatives and Hedging; and ASC 321, InvestmentsEquity Securities
Example: Sale of product in exchange for crypto
Seller enters into a contract to deliver a product to Customer on July 1 in exchange for 100 units of Cryptoasset X
when it is trading at $10 per unit. Assume that Cryptoasset X has characteristics similar to Bitcoinit is not a financial
instrument and would be treated as an intangible asset by its holders. Seller delivers the product on July 1 and also
receives payment at that time. Seller still holds Cryptoasset X on September 30 when it trades for $8 per unit and on
December 31 when it trades for $11 per unit.
Seller applies revenue recognition accounting guidance 18 to the sale of product and determines that Cryptoasset X
represents a form of noncash consideration that should be measured at inception of the contract at $1,000 (100 units
at $10 per unit).
While this contract involves delivery of product and receipt of payment at contract inception, other arrangements may
be more complicated and require additional considerations, including whether forward contracts involving cryptoassets
represent derivatives or contain embedded derivatives.
Debit Credit
Intangible asset Cryptoasset X 1,000
Revenue 1,000
To recognize revenue on delivery and receipt of Cryptoasset X as payment on July 1
Debit Credit
Expense 200
Intangible asset Cryptoasset X 200
To record impairment as of September 30 due to a decline in fair value
On December 31, the fair value is $1,100, but it is not marked up above its basis
because it is treated as an indefinite-lived intangible asset.
Tokenization determine the appropriate accounting. security that would require registration
In the case of Bitcoin, we believe Issuers would determine whether the with the SEC, unless the issuance
what has been tokenized is an token or coin should be accounted for qualifies for an exemption.
intangible asset (a specific number as debt, equity, or a right to goods or
of units of Bitcoin), because services in the financial statements. Other accounting issues
ownership does not come with Holders would determine whether the Crypto raises novel accounting
any other rights and obligations. In token or coin represents a financial questions, many of which are
contrast, other cryptoassets, such asset, a right to goods or services, or just starting to be examined. For
as tokens or coins in an initial coin something else. For example, a token instance, holders of crypto may need
offering, may convey specific utility that conveys specific rights to cash to evaluate how best to account
or financial characteristics, such over time may meet the definition of for blockchain forks and other such
as rights to goods or services or a debt security or loan irrespective of events. Crypto miners must determine
a share of profits of a company or whether ownership of the token is how best to account for the receipt of
project. In each case, we believe the represented on a blockchain. assets related to their mining efforts.
accounting should follow the rights Because of the limited accounting
Of course, it is also critical to evaluate guidance in this area and the dynamic
and obligations conveyed. cryptoasset transactions to verify that and evolving nature of the industry,
Issuers and holders of cryptoassets they comply with relevant legal and crypto participants should stay tuned
should carefully evaluate the specific regulatory requirements. For example, in to financial reporting developments.
characteristics of the asset to an issuance of tokens may represent a
18
Source: ASC 606, Revenue from Contracts with Customers
Internal control and the future technologies, due diligence, and How does the organization ensure
of accounting analysis are performed to ensure crypto transactions are measured
Some have asked how blockchain that the service organization has the at an appropriate fair value?
technologies might change accounting appropriate controls in place.
How does the organization
and financial reporting. While that Crypto in particular raises unusual ensure that all crypto transactions
may be difficult to predict, we believe books and records challenges that are captured and appropriately
blockchain fits into a broader wave of require an effective system of internal reflected in the financial
automation technologies that have the control to answer key questions, statements and footnotes?
potential to improve the efficiency and such as:
effectiveness of financial reporting. Has the organization evaluated
Those effects may extend across the How does the organization whether its engagement with
spectrum of preparing, controlling, and evidence that its cryptoassets are crypto creates additional risks of
analyzing financial information. secure and that private keys have material misstatement (including
not been compromised? fraud risks) and designed and
Nevertheless, while blockchain and implemented controls to mitigate
other systems could ultimately How does the organization
those risks?
make verifying a transaction and its evidence its ownership of
amount more automated, internal cryptoassets? How does the organization ensure
control over financial reporting compliance with all relevant laws
If third-party custodians are used,
involves considerations that extend and regulations?
how is the organization confident
beyond the integrity of software that the custodian has the As the pace of automation
systems. Companies must maintain appropriate controls in place? accelerates, we believe the
responsibility for their own control financial reporting function will
environment and assess and respond Given the potential anonymity of
play an important role in assessing
to new risks in their processes. blockchain participants, how does
and addressing the risks that
the organization ensure all related-
Further, where external organizations accompany innovation.
party transactions are identified,
provide services related to blockchain accounted for, and reported?
Tax
Although the crypto
market is rapidly growing,
guidance regarding the
tax treatment of crypto
remains minimal.
implications The only clear guidance from the IRS

came in the form of Notice 2014-21,
released almost four years ago, stating
the IRS position that a virtual currency
is a digital representation of value that
functions as a medium of exchange
but does not have all the attributes
of real currency, such as legal tender
Key challenges facing institutionalization status in any jurisdiction. Accordingly,
of crypto the IRS treats crypto as property, not
as another currency.
Tax treatment of crypto:

The basics
When crypto is sold or exchanged
for cash for other property, the
taxpayer recognizes a gain on the
Candice Turner difference between the amount
Principal, KPMG of the cash or the fair market
value of the property received
and the taxpayers adjusted basis
in the crypto sold or exchanged
(typically the amount paid for
the crypto).
When the crypto is held as a
Robert Principe capital asset, such as investment
Managing Director, property, any gain or loss from
KPMG the sale of the asset is taxed
as capital gain or loss. For
individuals, capital gains are
subject to a favorable tax rate,
depending on the taxpayers
holding period.
When taxpayers receive crypto
due to airdrops or mining activity,
Erika Bonner
they include the fair market value
Partner, KPMG
of the crypto in gross income on
the date received.
When the crypto is held as
inventory or otherwise held for
sale to customers in a trade
or business, the gain or loss
is ordinary.
Tax accounting
In addition to potentially sizable tax liabilities incurred on the sale or exchange of crypto, taxpayers may
also bear significant tax accounting burdens with respect to their holdings, depending on the number
and frequency of crypto transactions in which they engage. As noted above, users of crypto must
calculate gain or loss every time they transact. Taxpayers that are transacting at a high frequency using a
trading bot, or mundane transactions such as buying cups of coffee with a crypto debit card, can rack up
significant amounts of taxable transactions that they will have to individually account for.
Taxpayers will need to identify those transactions that represent a sale or an exchange of crypto for a
good or service (and are thereby taxable) and those that are merely transfers into an account that the
taxpayer controls, such as another wallet or a payment channel (and are potentially not taxable). 19 They
will then need to determine the value in dollars of each transaction.
Determining this dollar value is relatively straightforward for sales of cryptoassets for fiat currency, but
exchanges of crypto for other property may present a challenge. Taxpayers will need to determine the dollar
value of the good or service received from the counterparty less the dollar value taxpayer paid for the crypto
used to buy that good or service, which presents two potential issues:
If the taxpayer has purchased multiple units of

crypto at different prices, which price should they
use to determine the cost of crypto used in a
particular transaction?
General tax principles may point to specific identification
the crypto exchange must be traced to a particular tranche
of purchases to determine what was paid for a specific
block of Bitcoin, for example. Alternative methods such as
last in, first out (LIFO) or first in, first out (FIFO) may also
be available. These alternative methods do not require a
taxpayer to distinguish specific blocks of crypto. Rather, in
What if a taxpayer is the case of LIFO, the taxpayer is assumed to be using the
using a crypto to purchase most recent crypto the taxpayer purchased and uses that
another crypto? price for which it was purchased. Or, in the case of FIFO,
Provided that transactions are the taxpayer is assumed to be using the first crypto the
with respect to more commonly taxpayer purchased and uses that price for which it was
used cryptoassets, there are some purchased.
reputable sources of pricing data. The availability and relative merits of each method of tax
However, altcoins that are not sold accounting should be assessed by taxpayers at the outset
for dollars may need to be priced of their participation in the crypto marketplace.
based on a readily convertible
crypto such as Bitcoin.
19
Some transactions with third parties (e.g., gifts) may not be included in the gross income of the taxpayer.
Intermediaries and tax compliance obligations Further, companies should be aware that they may be
Custodial business models will trigger compliance subject to withholding tax obligations on payments to
obligations with respect to cryptoassets. Generally, if a service providers even if the payment is made in crypto.
company holds crypto on behalf of others and facilitates As a general matter, these reporting and withholding
transactions, the company should consider whether certain requirements require companies to request, at a
tax information reporting (usually on IRS Form 1099) is minimum, the tax identification or social security number
required with respect to the person for whom the crypto of customers, service providers, and other payees.
is held. If a company pays service providers with crypto, However, the pseudonymous nature of crypto presents a
other tax reporting rules may apply depending on whether challenge. A primary role of tax advisers should be to assist
the service provider is an employee. companies in simplifying and automating tax reporting and
withholding compliance procedures in order to prevent
these requirements from disrupting the market. This will
reduce the burden on individuals and organizations such
that taxpayers may freely transact with cryptoassets.
KPMG’s Cryptoasset
Framework
As adoption of crypto KPMGs framework that has been applied successfully to several
advanced crypto projects and businesses. This framework comprises
increases in a big of key capabilities required for a crypto business covering strategy,
technology, operations, cybersecurity, risk management, finance
way, organizations and compliance to help them on the road to institutionalization.
The framework categorizes these capabilities under five pillars as
will need to prepare illustrated on the following page:
for a changed future. 0 Plan: Strategize the products and services to be provided
and establish product-market fit
In working with start-
ups, exchanges and 1 Onboard: Onboard the cryptoasset and the customer
Service and deliver: Provide support for the servicing and

large financial services 2 management of cryptoassets
organizations, KPMGs 3 Protect: Secure cryptoassets, protect client confidentiality,
and monitor the blockchains
Cryptoasset practice Comply and report: Comply with the applicable regulatory
has developed a cross- 4 frameworks, financial reporting requirements, and tax
reporting obligations
functional framework
that helps a crypto
business scale while
addressing the key
challenges discussed
previously.
KPMGs Cryptoasset Framework
Strategy and Leadership and

0. Plan revenue models
Product-market fit
governance
1. Onboard 2. Service and deliver
Transaction monitoring
Customer onboarding, KYC, and Asset Crypto order management,
and antimoney
investor qualification provenance booking, and settlement
laundering (AML)
Account creation and Crypto key provisioning Fork management Customer and
funding and exchange integration and governance account servicing
Crypto storage and

Cyber threat defense Resiliency and disaster recovery
physical security
3. Protect
Privacy Crypto key management and Blockchain activity and
operations threat monitoring
4. Comply Regulatory compliance,

and integration, and reporting
Finance, accounting, and tax
report
Primarily crypto-specific Traditional capabilities
capability applied to crypto
KPMGs Cryptoasset practice includes crypto miners, cybersecurity professionals, technology

architects, data scientists, capital markets operations specialists, smart contract developers, regulatory
compliance professionals, tax professionals, and accounting advisers.
To discuss your organizations specific needs, please contact your local KPMG office.
Crypto Are cryptoassets truly
currencies?
What is in a name? Sometimes it is
aspiration. That is the case for the
economics
moniker currency in cryptocurrency.
Cryptocurrency is a remarkable and
innovative leap forward, but the leap
is not far enough yet to meet all the
criteria for a true currency. Furthermore,
the jury is still out on the utility of
cryptocurrencies, and deliberations could
take several years, if not more. While
some people expect cryptocurrencies
Money has continued to evolve to take over from government-issued
fiat currency, there are still big hurdles
since the beginning of civilization. before they can attain mainstream global
In this section, we provide a deeper acceptance.
In order to meet the definition of a
dive into the history of money and currency, three criteria must be met:
the economic value of crypto to unit of account, store of value, and
unit of exchange. Many people believe
help assess if crypto is a money cryptocurrencies pass the first test; they
are units of account. One can measure,
evolution, a custody evolution or a in units, the amount of crypto purchased
or used. This is critical, as currencies
record keeping evolution. are the basis for accounting. One holds
inventory of 10 widgets at a purchase
price of 10 Bitcoin each. Or one sells 10
widgets at a profit of 4 Bitcoin each. Or
one buys 10 bonds at 10 Litecoin each
and marks the value to market each
day in currency units.
Constance Hunter
Chief Economist, KPMG
To fulfill the requirements of store History of currency innovation same mark were uniform, they were
of value, cryptocurrencies must So, if cryptocurrencies are not truly worth the same amount in large
be much more stable. Consider for currencies, what are they and what jurisdictions and everyone agreed on
a moment extending a person or economic benefits do they possess? what they were worth. This saved
entity a loan in a cryptocurrency. The To answer this question, it is helpful time on weighing chunks of metal
value is too unstable at the moment to consider a brief history of money or counting cocoa beans, and it
to be assured repayment. Under and the various innovations that have decreased the probability of cheating.
these conditions, neither lenders nor occurred over the millennia. All of the During the Renaissance, the Italians
borrowers would be willing to take the innovations that have endured had came up with a new innovation:
risk of transacting in cryptocurrencies. one thing in common: they reduced credit. This made Italian money (florin
After all, extending credit in a currency friction and, by doing so, increased from Florence or ducat from Venice)
that risks significant devaluationor economic activity. the reserve currency of the day.22 In
borrowing if the value appreciated this way, one can see that currency
beyond the borrowers ability to pay Reducing friction is a key element markets illustrated the first instance
would be a fools errand. of the history of currency of what is known today as the winner-
innovation. The first unit of account take-all effect and the network effect.
As a medium of exchange, a reduced the friction that was inherent
currency must have ubiquitous in barter. For example, if one had We cannot stress enough the
acceptance within a large enough berries and wanted meat, in order importance of trust. It is essential
jurisdiction to be practical. The larger for the exchange to take place it so that currencies can facilitate not
the jurisdiction, the greater the was necessary to find a person with just current transactions but future
efficiency (or the greater the reduction meat who was looking for berries. transactions by being a means of
of friction). For example, the creation The introduction of currency allowed accumulating savings and acquiring
of the Euro reduced friction within the berries to be exchanged for money, credit. Paper money was invented in
European Union (the trading block) which could then be used at any China in 740 B.C.,23 but it took longer to
and increased trade and per capita future date to purchase anything. The become more ubitquitous than coins or
GDP. The use of a reserve currency first currenciesshells, cocoa beans, more modern inventions like electronic
also reduces friction. The dollars is the salt, barley and the likeall suffered money and credit cards. The reason for
worlds reserve currency. In addition to from a common problem: the units the delay? Trust. Specifically, the lack
commodities being priced in dollars, were not infinitely divisible and they of it.
dollar invoicing is used in 4.7 times the could be destroyed or lost.
U.S. import share.20 This elimination of Creative destruction and the
a foreign exchange transaction in trade In the seventh century B.C., Lydia value of bubbles
reduces friction. (what is now modern day Turkey) In Europe, ubiquitous use of paper
created the first metal coins.21 This money thrived when credit became
was such a significant innovation widely used. While the Italians were
in the use of money that it was innovators in finance, creating the
quickly copied and used across dual-entry accounting system, and
many countries. Coins with the introducing credit, the Dutchwith
20
Source: Harvard University and NBER, The international price system, Gita Gopinath (November 2015)
21
Source: Duke University, Beyond Bitcoin: Issues in Regulating Blockchain Transactions, Trevor I. Kiviat (2015)
22
While central banking was not yet invented and, thus, no central bank reserves existed, the currency equivalent of a lingua franca
was in existence. As new innovations came into being, new currencies became the predominant one used over the centuries.
23
Source: Museum of the National Bank of Belgium, A story of money (2006)
their large colonial holdings and the transferability of credits which in for gift cards which are electronic
trading empire that spanned the turn reduced the friction of trading facsimiles of fiat currency. However,
worldtook the introduction of credit with unknown counter-parties and they are usually only purchased if
to the next level. The level of bubbles. this ultimately increased economic they are also earned. Reward points
output. The Dutch took the Italian can increase loyalty and purchases
So, is crypto a bubble? And if it is a
invention of credit and supercharged on a platform and have the utility of
bubble, does it have lasting value?
it via its global trading empire. The increasing customer engagement, but
Some bubbles create lasting value
influx of liquidity from the economic they do not change value based on
because excess liquidity is pumped
success of the Netherlands gave market dynamics and they can only be
into ideas so innovative that they
everyone, from the aristocracy and redeemed for preapproved purposes.
would not otherwise receive
the bourgeoisie to the artisans and Thus they are not fully equipped.
funding. Think of the dot-com bubble.
laborers, increased wealth. It was
This type of bubble falls under the The game Second Life has a fully
this base of increased wealth that
purview of the famous economist equipped currency called Linden
allowed tulip mania to take off. When
Joseph Schumpeter who coined the Dollars, which can be earned,
this bubble crashed, much of the
phrase creative destruction. This is purchased, transferred, and redeemed.
wealth crashed with it as there was
relevant for crypto because it is likely While the so-called economy of
no innovation value in the tulips
that crypto would not have gained the Second Life has grown over the past
themselves, only increased demand
value and market share it has without decade, the value of Linden Dollars
and the liquidity to fuel it.
excess liquidity in the financial system has remained stable, between $24
looking for a home. Globally, there are The economic value of and $27/Linden Dollar. Linden Dollars
over $16 trillion of assets on central cryptoassets have the moniker of a currency, but
bank balance sheets. This liquidity If cryptoassets are not true currencies, it is a misnomer because Linden
has found its way into markets, and what is their value now and what Dollars are not a medium of exchange.
it is highly possible that the crypto might make them currencies in Many cryptoassets generally aspire
market is one beneficiary. Like the the future? To analyze this situation to be usable currencies within the
liquidity created in the wake of the one must consider that not all general economy, but to get there a
Asian and Russian currency crises in cryptoassets are as freely available chicken or the egg type of problem
the late 1990s, money has found an as fiat currency. needs to be solved. In order to be a
innovation to support.
Crypto designers consider three medium of exchange, a crypto must
At the height of the dot-com bubble, main features for tokens depending be a store of value. In order to be a
many businesses had lofty valuations on the utility they want to achieve: store of value, the speculative nature
and some had scant business models acquirability, transferability, and of crypto must dissipate. However,
underneath them. However, we can redeemability. With acquirability, many creators of crypto seem quite
see clearly over 15 years later that some tokens need to be earned, and happy with the steep appreciation
many of the technological innovations some can be both earned and bought. their tokens have achieved. Until
funded in that bubble created lasting For transferability, sometimes it is at least one crypto meets all three
value that has been a building block advantageous to limit transferability criteria, they cannot be considered
of much of the innovation of the outside of a closed system. With full currencies.
past decade. redeemability, it must be decided This does not mean cryptoassets
However, some bubbles are like if the crypto can be exchanged for cannot evolve and earn the currency
the tulip mania that swept the government-issued fiat currency. moniker. It is possible to find friction
Netherlands and then the world in the If all three features are enabled, a within the global financial system
1600s. One could argue it all started token is said to be fully equipped. that a crypto could alleviate, such as
financial innovation and increased For example, if one considers credit the global payments market. In this
liquidity. As mentioned above, the card reward points, they can be market, individuals pay high fees to
innovation of paper money facilitated earned and they can be redeemed transact. Approximately $600 billion
is transferred annually around the
world in global remittances.24 If a
crypto could achieve enough stability
of value to be used for this purpose,
it could eliminate the need to have
bank accounts in multiple countries
and could allow individuals to transfer
money to anyone without paying wire
fees. If a fully equipped crypto that
has a stable value becomes easier
and less expensive to transact than
a government-issued fiat currency, it
could be an innovation that becomes
ubiquitous in the global financial
services system.
Unsurprisingly, central banks
take a somewhat skeptical view
of the explosion of private money
because private money was
eliminated with the introduction
of federally backed money in the
19th and 20th centuries. To prove
successful and to ultimately become
institutionalized, crypto must show
innovative qualities and improve on
the current money system.
Becoming a full-fledged
asset class
As crypto matures, it remains to be
seen if it will be a safe haven asset
such as treasury bonds, a commodity
such as gold, or a risk asset such
as equities, or something else. The
answer to this question lies in the
level of trust crypto is able to garner
from the market. Cryptoassets
have the potential to increase
trust via the immutability feature
of the underlying blockchain
technology. However, this alone
may not be sufficient to generate
trust without also embracing
institutionalization.
24
Source: The World Bank, Bilateral Remittance
Matrix 2017 (April 2018)
Summary
Cryptoassets are worth paying attention to as they have the potential to revolutionize
the global financial ecosystem. Reducing friction has been a key element of the history
of financial innovation. There is friction in the global economy, and that friction led to
the invention of cryptoassets. That very friction will also define the staying power of
cryptoassets as we look forward.
Cryptocurrencies like Bitcoin are one type of cryptoassets. Assets like Bitcoin are not
truly currencies yet. They can be units of account, but they are not yet a store of value
or a medium of exchange to be full-fledged currencies. There are many others types of
cryptoassets, such as stablecoins, security tokens, and utility tokens. Together, these
assets, coins, and tokens have led to the emergence of the tokenized economy, which is
one of the more promising use cases of crypto. Global financial services institutions are
looking to actively retool and participate in this blockchain-based tokenized economy.
Institutionalization is the necessary next step for crypto and is required to build trust,
facilitate scale, increase accessibility, and drive growth.
There are many challenges facing organizations as they institutionalize crypto.
Establishing product-market fit, complying with regulatory and tax obligations,
managing forks, addressing cyber risk, determining asset provenance, and updating
financial reporting are all top-of-mind concerns for crypto businesses. Lessons
learned from traditional business models are still applicable, but organizations will
need to channel these through a crypto lens. Organizations should look to proactively
get in front of these challenges and prepare for a changed future. There is a need
for a comprehensive framework and crypto-specific capabilities to support this
transformation and prepare for a changed future.
A new world of finance is emerging in which transacting in cryptoassets may become
standard procedure. New tokens and assets are one thing, but new business models
and market participants may redefine the space significantly over the next few years. We
are watching crypto evolve from the front lines and will continue to update our thinking,
our framework, and our services. Stay tuned.
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Institutionalization

By KPMG By Coinbase By Coinbase and KPMG

Cryptoassets Fundraising Financing Security tokens

Examples of crypto use cases

Trading/Prime services Asset management Retail and payments Services

Miners/Mining pools Designated validators Stakers

Domestic payments Ownership and rights Smart contracts/Dapps

Cross-border payments Risk transfer/Hedge Platform incentives

Micropayments Store of value Lending and financing Storage and computing

Collectibles Rewards programs

Use cases of current and emerging cryptoassets/tokens

Jeff Horowitz Eric Scro

Accounting and financial reporting: Cryptoassets challenge traditional financial reporting

Key challenges facing institutionalization Soft forks versus hard forks

cryptoassets with them.

Samuel Jeffery Brian Fields

implications The only clear guidance from the IRS

Tax treatment of crypto:

If the taxpayer has purchased multiple units of

Service and deliver: Provide support for the servicing and

Strategy and Leadership and

1. Onboard 2. Service and deliver

Crypto storage and

4. Comply Regulatory compliance,

KPMGs Cryptoasset practice includes crypto miners, cybersecurity professionals, technology

KPMGs Cryptoasset Services Link

Agha Khan John Caruso Salvatore Ternullo

Anderson Salinas Kiran Nagaraj Sam Wyner

Brian Fields Ladi Ajayi Samuel Jeffery

Candice Turner Michael Pavlick Tracy Whille

Constance Hunter Robert Principe

Judd Caplain Phil Lageschulte

China Jan Reinmueller

Das könnte Ihnen auch gefallen

KPMGs Cryptoasset practice includes crypto miners, cybersecurity professionals, technology

KPMGs Cryptoasset Services Link