Post sponsored by Purple Lime
By now you have probably heard about cryptocurrency – if not in detail, then at least in passing. Cryptocurrencies like Bitcoin and Ethereum have been taking the world by storm, and now even business powerhouses like Tesla and MicroStrategy Inc are switching some of their cold hard cash for cryptocurrency. And the reality is, any business could use or trade in cryptocurrencies, and may even make a large amount of money doing so. But if you do decide to explore the world of crypto for your business, you need to understand what it is, and what to do when it ends up on your balance sheet.
What is Cryptocurrency?
The official definition of a cryptocurrency is:
‘A digital asset designed to work as a medium of exchange wherein individual coin ownership records are stored in a ledger existing in a form of a computerized database using strong cryptography to secure transaction records, to control the creation of additional coins, and to verify the transfer of coin ownership.’
In plain English, it is a form of payment that can be exchanged online for goods and services. A lot of companies have issued their own forms of cryptocurrency, which can be traded specifically for the goods or services that company provides. In fact, there are more than 10,000 different cryptocurrencies that are traded publicly, but the most commonly used by far are Bitcoin and Ethereum. Think of it as arcade tokens – you will need to exchange real money for the tokens, which you can then spend to access the goods or services you want, and you can exchange anything leftover (or earned) back into cash at any time.
One of the big attractions of cryptocurrency for many is the security. The currencies are built on a technology called ‘blockchain’, which is a decentralised technology spread across many different computers, using them to manage, track and record transactions. This decentralisation makes cryptocurrencies one of the most secure forms of payments out there.
If you are one of the many businesses deciding to take the plunge and invest in cryptocurrencies, there are some things you need to be aware of. First is that you need to do extensive research around cryptocurrency in general, as well as the specific cryptocurrency you want to buy, and where you are buying it from. Keeping your business safe and secure should be your number one1 concern, and while Bitcoin is secure, there are still risks to using it.
The Questions Around Crypto Accounting
Then there is the accounting side of things. As cryptocurrencies have been brought into the corporate world, a lot of discussion about how to account for them has taken place. The main issue is that cryptocurrencies currently have no reference under UK GAAP (Generally Accepted Accounting Practice), which means businesses and accountants need to carefully consider who they fit into existing asset classes. So, here are a few of the main questions using cryptocurrencies as a business will raise from an accounting point of view:
Are they cash? Under FRS 102 (which is the UK’s Financial Reporting Standard), there is a very strict definition for cash, which is ‘Cash on hand and demand deposits and short term highly liquid investments that are readily convertible to known amounts of cash, and that are subject to an insignificant risk of changes in value.’ By that definition, cryptocurrency falls short of the mark for being considered cash. This is because cryptocurrencies are not legal tender backed by any government, they are a highly volatile currency, with low liquidity into fiat currency, and a relatively small number of outlets accept them. So, your cryptocurrency cannot be accounted for as cash.
Are they a financial instrument? Again looking at FRS 102, cryptocurrency would not be considered a financial instrument either. A financial instrument is contract that gives rise to a financial asset of one entity, and a financial liability or equity instrument of another. And while you can convert cryptocurrency into cash, the holder of the cryptocurrency does not have the right to cash just because they hold cryptocurrency. It also does not result in an equity instrument on the other side, so it fails on both accounts.
Are they inventories? This is debatable. Because inventories are defined as assets held for sale in the ordinary course of business, any business that simply buys and sells cryptocurrency could account for them as inventory. This would mean they hold the assets at the lower cost and estimated selling price, using the ‘first in, first out’ or ‘weighted average’ formulas in their accounts. If this is needed, we recommend working with an accountant to ensure no mistakes are made.
Are they intangible assets? Yes! According to FRS 102, an intangible asset needs to be:
‘An identifiable, non-monetary asset without physical substance. Such an asset is identifiable when:
- It is separable, i.e. capable of being separated or divided from the entity and sold, transferred, licensed, rented, or exchanged, either individually or together with a related contract, asset or liability; or
- It arises from contractual or other legal rights, regardless of whether those rights are transferable or separable from the entity or from other rights and obligations.
Cryptocurrencies tick all of these boxes, and so for most businesses investing in cryptocurrency, the best route would be to account for them as an intangible asset under FRS 102.
The struggle most businesses will have when involving cryptocurrency in their accounts right now is that the legislation hasn’t caught up to the digital world. So all we can do is use the current accounting standards and make the best logical choice, until the law catches up and can give us a specific accounting method for cryptocurrencies. In the meantime, if you are considering investing in cryptocurrency, we highly recommend working with an accountant who understands the crypto market and can give you the best advice on how to handle the process, and account for them properly. At Purple Lime, we love working with new technologies, and are excited by all the challenges that cryptocurrencies will bring. If you would like to know more, or see how we can help you, please get in touch to book your free consultation by emailing firstname.lastname@example.org, or calling us on 01249 691360.
Visit Purple Lime online at: www.purplelime.uk.com