Cryptocurrency: the Wild West no more?

By Julius Melnitzer | June 22, 2021

There’s a serious irony in the notion that the cryptocurrency landscape still resembles the Wild West.

“I would argue that it never did,” says David Rotfleisch of Toronto-based tax boutique Rotfleisch & Samulovitch P.C. “After all, it’s based on blockchain, which records every single transaction on a ledger that can’t be altered.”

And to the extent that cryptocurrency did have some bragging rights to the Wild West designation in its early days, it’s quickly losing its halo.

David Rotfleisch

“The CRA [Canada Revenue Agency] and the IRS [Internal Revenue Service] have the tools to access blockchain data and track it down,” Rotfleisch says. “And tax authorities are not only targetting the industry, but doing so in consultation with regulators worldwide.”

Consider, for example, that IRS personal income tax returns specifically require taxpayers to report any transaction involving cryptocurrency.

“To the extent that people report, the information becomes the first point that allows tax authorities to start pulling on a much larger thread,” says Vern Krishna, counsel at Toronto-based Tax Chambers LLP and a professor at the University of Ottawa’s Faculty of Law.

And to the extent they don’t, regulators have another, fruitful angle: go where bitcoin and other cryptocurrency holders spend their stash.

“Any legitimate business that accepts bitcoin has a record of who paid it to them,” Krishna says.

Even more fruitful are the cryptocurrency exchanges and other platforms. In March, Canada’s Federal Court ordered Coinsquare, the country’s largest cryptocurrency exchange, to disclose information about users who had accounts over $20,000.

Once Coinsquare hands over the information, everything about transactions from 2014 to 2020 will be on the table: information covered by the order includes all transfers and trading activity, including date, time, amount, and fees paid, as well as deposit addresses.

In the U.S., a federal court has recently ruled that Circle Internet Financial, a peer-to-peer payment technology company that operates as a global crypto finance company, must reveal particulars of customers who transacted more than US$20,000 in cryptocurrency between 2016 and 2020.

The scope of these disclosure applications suggest that it’s not just the big players that tax authorities are pursuing.

“The $20,000 threshold is low-hanging fruit,” Rotfleisch says. “A lot of individual traders are going to get questionnaires.”

Somewhat counter-intuitively, closet cryptocurrency traders in Canada may be in greater jeopardy than in the U.S. That’s because it’s more difficult for the IRS than the CRA to get disclosure orders. U.S. courts require a reasonable belief that taxpayers using the third-party platform have failed to comply with their obligations; CRA may apply simply on the basis that it requires information about whether or not third-party platform users are complying.

However that may be, Rotfleisch also believes that the IRS and the CRA may be co-ordinating their disclosure applications.

“Whether they’re co-ordinated or not, however, tax-sharing agreements allow CRA and IRS to share their information,” he says. “They can also share the information reciprocally with other countries in global tax enforcement networks who in turn may pass on information that CRA and IRS can use for domestic audits.”

As well, Canada and the U.S. are among several nations beefing up their enforcement resources. The Liberals’ 2021 budget included $304.1 million for the CRA to fund new initiatives and extend existing programs. And the Biden administration has proposed an $80 billion infusion for the IRS, much of it aimed at virtual currency transactions.

In other developments, regulatory amendments creating new virtual currency obligations for entities subject to Canada’s Proceeds of Crime (Money Laundering) and Terrorist Financing Act came into force on June 1. Provincially, securities regulators are stepping up scrutiny of cryptoasset trading platforms: most recently, the Ontario Securities Commission initiated proceedings again Poloniex, based in the Seychelles Islands, for flouting securities law. Poloniex is also among several similar entities being sued in the U.S. for allegedly manipulating cryptocurrency prices. Finally, the OECD has announced that international crypto tax reporting standards are coming later this year.

Still, Lawrence Ritchie, the Toronto-based chair of Osler, Hoskin & Harcourt LLP’s cross-disciplinary risk management and crisis response national practice, cautions that the domestic solution to cryptocurrency crime is not necessarily in legislation or regulatory pronouncements.

“At this stage, we have laws and regulation that are consistent with international approaches, but from the domestic side, it’s about enforcement, information sharing, and co-ordination,” he says. “The problem with our system is that it spreads expertise and resources out so widely that there are too many people responsible for too many things – so nobody ends up responsible for anything.”

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Julius Melnitzer is a Toronto-based legal affairs writer, ghostwriter, writing coach and media trainer. Readers can reach him at julius@legalwriter.net or https://legalwriter.net/contact.

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