Crypto industry fights to exempt NFTs and DeFi from tax filing rules

Crypto industry fights to exempt NFTs and DeFi from tax filing rules

The OECD is trying to introduce new rules to prevent cryptocurrencies from being used to hide assets out of sight of tax authorities.

Representatives of the crypto industry resisted attempts to force them to report details of NFTs, decentralized financial transactions (DeFi) and bulk payments to tax authorities at a meeting of the Organization for Economic Cooperation and Development (OECD) in Paris on Monday.

International tax standard setters want to expand existing rules for the banking sector to prevent foreign bitcoin holdings from being kept secret from tax authorities. And they may extend them further than the existing rules that apply to banks and than the money laundering standards currently being put in place by the parallel Financial Action Task Force (FATF) standards organization for cryptocurrencies.

Coinbase's vice president of tax Lawrence Zlatkin told the OECD that its plans, outlined in a March consultation, are "overly broad" because they do not only look at financial assets used as payment or investment vehicles. Zlatkin added that the proposals would merely impose additional burdens on a relatively new and nascent industry.

Under existing rules, known as the Common Reporting Standard (CRS) - whose U.S. counterpart is the Foreign Account Tax Compliance Act (FATCA) - banks are required to identify all account holders who are tax residents abroad and submit their data to the relevant authorities to ensure they are not evading taxes.

However, the industry has argued that these requirements are much more difficult to meet for NFTs, whose price is not known at all times, unlike, say, stocks or gold. They also point out that similar non-digital assets, such as paintings, are not covered by existing regulations.

Attempts to include decentralized financial applications (DeFi) may also be premature, Zlatkin said. "Maybe we should wait until they fit the parameters better," he said, referring to DeFi systems where there is no one to be considered a controller and they may not even consider themselves customers. "We should focus on what we know."

What should be reported?

Parallel money laundering regulations set by the Financial Action Task Force (FATF) only require crypto wallet holders to provide identity verification if a particular crypto asset is intended as a means of payment or investment. However, tax officials are concerned that it may be too difficult to apply this test to the diverse range of crypto assets.

An alternative would be to consider only crypto assets that are "actively traded on an established market," said Lisa Zarlenga, a partner at the law firm Steptoe and Johnson, who spoke on behalf of the advocacy group Chamber of Digital Commerce.

This could mean looking at whether the prices offered and accepted are readily available and published, and would in practice require disclosure for anything traded on a major exchange like Kraken or Coinbase, Zarlenga said.

Going further than traditional bank deposits such as interest and dividends could be a violation of the principle of technology neutrality because digital assets would be treated more strictly, Zarlenga added. "Just because they are digital doesn't mean they should be included.

The OECD seems to think that simply applying existing anti-money laundering rules - which focus on how a particular asset is used - would put wallet providers in an impossible predicament when deciding whether or not to report a transaction.

"Some delegates felt that this binary reporting criterion would be very difficult to apply in practice," said Philip Kerfs of the OECD. Deciding, for example, whether a particular Bored Ape is held for investment purposes or for aesthetic reasons would be a judgment call.

The OECD responds

Regulators are grappling with exactly how a reporting system might work - for example, how to determine the exact level of trading above which assets must be disclosed to authorities - but may also believe that digital assets are simply riskier and therefore deserve stricter treatment.

Erika Nijenhuis, senior counsel at the U.S. Treasury Department, said Monday that the comments by Zlatkin and Zarlenga "suggest to me that the commenters don't believe there are additional risks to tax compliance from the digital nature of the type of assets we're talking about. Why is that the right answer?"

Nijenhuis also objected to industry arguments that regulation could constrain a fast-growing and relatively young sector. "I'm not sure that the fact that something is new is necessarily a reason not to do it," she said. "CRS and FATCA were new when they were introduced.

"Is there a risk that a significant amount of transactions will go through these exchanges? and we have missed an opportunity to require reporting?" if the framework does not now address decentralized exchanges, Nijenhuis asked.

Her comments suggest that industry complaints about overregulation may go unheard. But in other areas, such as preventing crypto exchanges from fleeing to less regulated countries, parts of the industry are advocating that the OECD take an even tougher approach.

'Nexus Rules'

Tax experts such as KPMG have advised that the so-called 'nexus rules' be extended - meaning that an exchange that is legally based in a tax haven and serves European clients must still comply with European standards.

Nijenhuis of the Ministry of Finance has even floated the idea of creating blacklists of places with weak crypto rules, analogous to the EU's list of uncooperative tax and money laundering jurisdictions. This idea is supported by some industry players who do not want others to receive an unfair advantage.

"We would support broader nexus rules," Coinbase's Zlatkin said. "I don't think we would advocate that companies migrate to places where there is no reporting and just do that and circumvent those rules."

Zlatkin also endorsed the idea of blacklisting cryptocurrencies. "We don't want companies to be created or otherwise exist and turn their noses up at this whole process," he said.

Lawmakers in the European Union have even suggested pushing securities market regulators to issue a list of high-risk crypto companies that could, in practice, ban deals with firms in tax havens. But the European Commission, which is brokering talks to introduce money laundering rules for the sector, has argued that the plan could violate international trade laws.