By Kara R. Haas, CPA, CITP, CFE
Advocates of blockchain and cryptocurrency (fintech) often describe their innovations using familiar concepts, such as “bank-like” or “dividend-like.” Many fail to carry the analogy through to consider the appropriate compliance and evaluate risk.
When I talk with individuals struggling with blockchain concepts, I remove the technology layer and examine the underlying transaction.
Servicing Blockchain and Cryptocurrency Clients
Banking and financial services is the core of fintech. Practitioners entering from unrelated sectors may not possess the appropriate level of expertise. Blockchain facilitates the creation, transfer, and custody of an asset without the use of a third-party, financial intermediary. Familiarity with Know-Your-Customer/Anti-Money Laundering (KYC/AML) compliance is paramount. The client focal point is on the end-user. As practitioners, we are required to consider the source of funds and governance. Often, the jurisdiction of incorporation, operation, and customer base are entirely different.
I celebrate the efforts of those working to design advanced internal controls dealing with digital wallets, custody, or areas of integration between systems. However, to be effective, the existing internal control structure must be solid. Most startups I see in this area lack a basic understanding of proper reporting, applicable compliance, and segregation of duties.
Finally, no one wants to temper an enthusiastic innovator, but the soundness and sustainability of a business model and popular marketing incentives need testing.
Clients Who Accept Cryptocurrency
There are two choices in accepting cryptocurrency payments. One is via a third-party service that immediately converts the assets to U.S. dollars. The primary consideration is understanding who bears the risk when a transaction is unable to be converted. The second choice is to hold the asset. The risk of this option is the ability to determine that the asset will be able to be converted to fiat on demand. Organizations holding a speculative asset should also be concerned with who is managing the asset.
Clients Who Invest in Cryptocurrency
Many clients could benefit from understanding the various levels of assurance and how to read an independent auditor’s report. For penny stocks now trading in the double digits, an EDGAR search will often render useful information prior to opening a 10-K, S-1, or SEC correspondence. Blockchain stocks have a handful of “formerly” names. Many were formed as reverse mergers through shell companies and subsequently pivoted.
Bitcoin and Ethereum are the leading cryptocurrencies by market capitalization. A stablecoin is a digital representation of a fiat currency (U.S. dollars for simplicity) used to facilitate trading positions quickly.
To increase legitimacy and search for additional use cases, issuers are marketing stablecoins to retail customers. Attestations are the current gold-standard of assurance in this area. Reviewing these limited reports with an interested party will assist in determining if there is enough assurance to meet their intended use. Typing in the ticker symbol and “attestation” into an internet search will take you to their respective pages.
Tether (USDT) is the original and dominant stablecoin. You will not find an attestation for them. Nor will you find mention in a majority of the mainstream coverage. There is a host of existing litigation from various federal and state authorities. To ignore its existence understates the risk of the ecosystem. There are over $25 billion USDT traded around the world, and in much higher volumes than bitcoin.
There are several resources that can give a practitioner a general sense of the market activity outside of one’s domestic boundaries. Blockchain may be an immutable public ledger, but the majority of the reporting and risk reside off of the blockchain.
Coinlib gives a glimpse of the money flow in cryptocurrencies. It is helpful to see how little U.S. dollars is actually moving into the ecosystem. The flows often looks something like this:
BTC » PAX » USDT or USDT » TUSD » BTC.
The site also captures market activity.
Aggregators, such as Coin Market Cap or Coin Gecko, are easily accessible to give a sense of the dominant exchanges at which a token is traded and its trading pairs. Most exchanges and activity are located in jurisdictions with minimal oversight.
For further reading on any of the above, David Gerard, a well-known author in blockchain, summarizes a host of worthy reads in his latest post.
Kara R. Haas, CPA, CITP, CFE, is a speaker, author, and consultant for the independent retail industry. She can be reached at email@example.com.
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