The first cryptocurrency – Bitcoin – came into existence in 2008. It was created to facilitate peer-to-peer exchanges, using Blockchain technology. Its use of cryptography to control how it is created and managed led to it being called a cryptocurrency.

Nowadays, there are more than 1,400 ‘cryptocurrencies’ (sometimes referred to as ‘digital currencies’) in existence (e.g. Bitcoin, Ethereum, Litecoin, Bitcoin cash and Ripple). Cryptocurrencies have the following common characteristics:

• They are created through cryptography, often with a maximum possible number of ‘coins’ that can exist through solutions to a complex algorithm (e.g. there can only ever be 21 million Bitcoins in existence).
• They are decentralised, with no single party (government or otherwise) regulating their use.
• Although values for a cryptocurrency may sometimes be quoted in a particular currency, a ‘coin’ in one country is indistinguishable from a ‘coin’ in another.
• Their value is supported only by the laws of supply and demand.
• Cryptocurrencies can be obtained by ‘mining’ (use of computing power to solve the relevant algorithm) or by purchase on a peer-to-peer basis and can, if both parties agree, be exchanged for goods or services.

The increased use of, and exposure to, cryptocurrencies raises issues about the financial reporting implications for those who receive, hold, issue or trade in them.

Holdings of Cryptocurrencies

The holding of cryptocurrencies have been discussed by the International Accounting Standards Board (IASB) and the IFRS Interpretations Committee (IFRIC Committee) since 2018. In November 2018 the IASB decided not to issue a separate standard on cryptocurrencies and ask the IFRIC Committee to publish a tentative agenda decision that explains how IFRSs apply to holdings of cryptocurrencies.

The IFRIC Committee published this tentative agenda decision at its meeting in March 2019. The IFRIC Committee noted that a range of cryptoassets exist. For the purposes of its discussion, the IFRIC Committee considered only a subset of cryptoassets—cryptocurrencies—with the following characteristics:

• A cryptocurrency is a digital or virtual currency that is recorded on a distributed ledger and uses cryptography for security.
• A cryptocurrency is not issued by a jurisdictional authority or other party.
• A holding of a cryptocurrency does not give rise to a contract between the holder and another party.

Nature of a cryptocurrency

According to the IFRIC Committee, cryptocurrencies meet the definition of intangibles in IAS 38 Intangible Assets since they typically:

• are capable of being separated from the company and sold;
• are a nonmonetary item (because they do not include rights to obtain fixed units of currency); and
• have no physical substance.

Under IAS 38, cryptocurrencies would be recognised at cost on initial recognition, with subsequent measurement using either the cost or the revaluation model.

If a company applies the cost model, it measures intangible assets at cost less any accumulated amortisation and impairment losses.

Which IFRS applies to holdings of cryptocurrencies?

The IFRIC Committee concluded that a holding of cryptocurrency is not a financial asset. This is because a cryptocurrency is not cash (because an insignificant number of businesses currently use them for transactions). Nor is it an equity instrument of another entity. It does not give rise to a contractual right for the holder and it is not a contract that will or may be settled in the holder’s own equity instruments.

The IFRIC Committee concluded that in cases where a company holds cryptocurrencies for sale in the ordinary course of business (ie dealer of cryptocurrencies), such holdings could be within the scope of IAS 2 Inventories. If the company is a broker-dealer (eg a trading platform or exchange) in cryptocurrencies, it may be able to measure inventory at fair value less cost to sell. If the company is not a broker-trader, its holdings will be measured at the lower of cost or net realisable value.

If IAS 2 Inventories is not applicable, an entity applies IAS 38 Intangible Assets to holdings of cryptocurrencies.

Disclosure of holding of cryptocurrencies

According to the IFRIC Committee a company should apply the presentation and disclosures requirements of the Standard it applies (ie IAS 38 or IAS 2) to recognise and measure the holding of cryptocurrencies. In addition, a company may have to disclose information related to material non-adjusting events (events that may arise after the reporting date that indicate conditions after the reporting period). For example, a company holding cryptocurrencies may have to consider whether changes in the fair value of those holdings after the reporting period are of such significance that non-disclosure could influence the economic decisions that investors make based on the financial statements.

Accounting for other crypto-assets

Neither the IASB nor the IFRIC Committee have discussed the accounting for other types of crypto-assets, such as those issued via initial coin offerings (ICOs).

Companies that raise capital via ICOs often provide holders (coin holders) with promises. Generally, the accounting treatment for holders of these coins will depend on the obligations arising for the company issuing the crypto assets. The nature of the obligations could result in these being recognised as equity, liabilities or revenues.

The full version of the IFRIC Committee tentative agenda decision is available here.

‘Mining’ of Cryptocurrencies

Neither IASB nor the IFRIC Committee have discussed how a cryptocurrency miner should account for these activities. The following text is based on Deloitte’s recommendation included in the iGAAP 2018 publication.

In the blockchain technology upon which cryptocurrency is based, ‘miners’ create new blocks that are added to the blockchain by using a ‘proof-of-work’ approach. Miners use ‘brute force’ computing power (a huge number of iterative trial-and-error calculations) to find a solution to a designated algorithm in the form of a unique identifier meeting defined parameters specified in the protocol underpinning the cryptocurrency.

When a solution is found, this new ‘block’ is added to the blockchain and can then be used by the miner to record the next set of cryptocurrency transactions waiting to be processed. In return, that miner receives:

• a reward of a number of newly ‘minted’ units of cryptocurrencies for identification of a new block; and
• any transaction fees (also in the form of cryptocurrencies) that the parties to cryptocurrency transactions have paid to have their transactions processed and confirmed.

No party is obliged to participate in and/or complete mining activity (a miner can cease their activities at any time) and no specified single party is responsible for providing the new units of cryptocurrency to a successful miner. The entitlement to an award is established through a protocol.

The transaction fee is agreed upon by the transacting parties, often by means of a bidding process based on the demand for space in a block.

Income

Revenue should be recognised at the fair value of cryptocurrencies received at the time it is earned both for identification of a new block and in respect of transaction fees.

In respect of the ‘reward’ for identification of a new block, the miner does not have a contract with a specified party in respect of its search for the successful generation of a valid identifier (rather, all parties to the blockchain are subject to the same protocol). As such, the definition of a customer in IFRS 15:Appendix A (‘a party that has contracted with an entity to obtain goods or services that are an output of the entity’s ordinary activities in exchange for consideration’) is not met. Accordingly, IFRS 15 Revenue from Contracts with Customers is not applicable to this aspect of the activities of a cryptocurrency miner.

Nevertheless, the miner is receiving an asset (in the form of cryptocurrencies) upon generating a new block. Hence, income (defined in part under IFRSs as an increase in economic benefits in the form of an inflow of asset) will be recognised if it can be measured reliably. This should be presented as revenue (albeit not revenue from contracts with customers).

In contrast, the transaction fee is received from the parties to the recorded transaction that have a common and binding understanding that the miner who solves the next block first will be unconditionally entitled to the transaction fee for that transaction. Those parties are the miner’s customers and recognition of revenue with respect to the transaction fee is, therefore, subject to the requirements of IFRS 15.

In both cases, the consideration received is in the form of cryptocurrencies, not cash, and therefore, as required by IFRS 15:66 (or by analogy to those requirements, in the case of the ‘reward’ for identification), the revenue should be measured at the fair value of the cryptocurrencies received.

As discussed above, the cryptocurrencies received should then be classified as an intangible asset in the scope of IAS 38 or, if held for sale in the ordinary course of business, as inventory in the scope of IAS 2.

Costs

The costs the miners incur, which can be substantial, cannot be related to a particular transaction for which the miner will receive consideration (i.e. they do not meet the asset recognition criteria and so will be expensed as incurred).

Property, plant and equipment used in the mining activities would be depreciated over its useful life in accordance with IAS 16.

Payment for goods or services

An entity could pay for goods or services using a cryptocurrency. Some companies offer to pay their employees in cryptocurrency.

Generally, these non-monetary transactions will need to be recognised at fair value. For example, IAS 16 Property, Plant and Equipment states that when plant and equipment is acquired in exchange for a non-monetary asset the cost of the item of property, plant and equipment is measured at fair value. A Standard might indicate that an entity should look to the fair value of the thing being acquired, such as in the plant and equipment example, or to the fair value of the consideration paid (which would be the cryptocurrency) such as for employee remuneration.

You can find more information about accounting for cryptocurrencies under IFRSs in the Deloitte publication Thinking Allowed — Cryptocurrency: Financial reporting implications.

Accounting for cryptocurrencies pursuant to Czech accounting legislation

For the sake of completeness, we add that communication on the accounting for and presentation of digital currencies was issued by the Ministry of Finance regarding the issues of cryptocurrencies in May 2018.

According to this opinion, the Ministry of Finance recommends that all users, regardless of the different motives for holding and using digital currencies, account for and present them as inventory “of its kind”.

More information about accounting for cryptocurrencies in line with Czech accounting legislation can be found in our Accounting News from July 2018.

Sources: www.iasplus.com

IFRIC Update March 2019

Investor Update April 2019

iGAAP 2018

The article is part of dReport – May 2019, Accounting news.