Saturday, May 25

FATF has adopted international standards that would level the playing field for virtual asset service providers, including cryptocurrency providers, and traditional financial institutions. In response to heightened Money Laundering (ML)/Terrorism Financing (TF)/Proliferation Financing (PF) risks related to virtual assets, the FATF amended its Recommendation 15 – New Technologies to clarify that the FATF Anti-Money Laundering (AML)/Counter Terrorist Financing (CFT) Standards apply to virtual asset (VA) activities and virtual asset service providers (VASPs), including cryptocurrency providers. Despite the exit of the FATF Grey list and EU Black list, MIPA has continued its supervisory plan and ensured that the Accountancy sector is complying with its AML/CFT Obligations. Now that Mauritius is ‘Compliant’ or ‘Largely Compliant’ with 39 out of the 40 FATF Recommendations, we are leaving no stone unturned to be ‘Compliant’ with Recommendation 15. 

As the use of digital assets proliferates and regulatory bodies continue to chart that new territory, auditing and accounting for those assets present fresh challenges. Many cases involving distributed ledgers and cryptocurrencies require thoughtful examination of basic considerations within traditional audit and accounting frameworks, while other instances call for new standards and practices. At this relatively early stage, uncertainty lingers around some elemental issues, such as which rules to follow, the jurisdiction of regulators and even the nomenclature by which to refer to such assets. With the presence of a new legislation englobing Virtual Assets in Mauritius and questions about auditing, accounting and taxation of digital assets, asking the right questions are helpful to understanding these new challenges and adapting to them. The ecosystem of digital assets is evolving, and so are the questions and challenges within. 

A research paper on “Accounting for and auditing of digital assets” by the Association of International Certified Professional Accountants clarified that entities will classify digital assets as indefinite-life intangibles. This means that they are going to be recorded at their initial fair value but not adjusted to fair value thereafter. Instead, the assets will be tested for impairment. Thus, the assets will be measured as of the contract inception date. That value will be used to record the revenue upon transfer of the good.

Whilst the accounting bodies have been slow to issue authoritative guidance, the IRS has been more vocal as to how it wants individuals and companies to treat digital assets for tax purposes. In 2014, the IRS published Notice 2014-21, which stated that, “[f]or federal tax purposes, virtual currency is treated as property. General tax principles applicable to property transactions apply to transactions using virtual currency.” In October 2019, the IRS published Revenue Ruling 2019-24 and an updated FAQ on virtual currency transactions. The new guidance provided explanations on the taxation of hard forks and airdrops, and provided details on the accounting and calculation of gains and losses on virtual currency transactions.

The IRS’ classification of digital assets as general property creates multiple potentials for a capital gain, or loss, for a taxpayer. Whether a digital asset is exchanged for a durable good, contributed to a partnership, or used to pay network fees, the taxpayer must generally calculate capital gain on each transaction. 

Considering the continued uncertainty surrounding the taxation of digital assets, many taxpayers are taking a conservative approach to digital asset tax reporting. Those transacting in digital currency should consult the proper professionals to ensure they understand the tax outcome of conducting or participating in an offering.  

An auditor, on the other side, will need to carry out certain procedures to determine an entity’s rights and obligations over a wallet address keeping in mind that some wallets are anonymous. If an accountant thinks about it from a fraud perspective, nothing prevents anyone from booking the balances within that wallet on multiple statement entities and providing that wallet address to every auditor who is looking at the separate financial statements. 

If, for example, a company purchased a product by moving bitcoin, the bitcoin transfer could be seen on the blockchain. But that does not necessarily provide audit evidence about the purchased product, including whether the product was delivered. One needs to understand if there is a manual process between information that’s flowing from the blockchain into the financial statements, and what does that process look like. And whether that would be subject to human error or fraud. 

ML risks associated to VA/VASPs in the Accountancy Sector

Before on-boarding a client associated with crypto-assets, it is necessary to understand how actors may utilise crypto-assets and tokens  to  commit  acts  of  crime. Examples of criminal actors include: 

      • Individual actors:  for instance, an individual who buys or sells illegal goods on the dark  web in return  for  crypto-assets; 
      • Small groups:  for instance, individuals who are part of  a small  hacking  group,  or  individuals who  buy  and/or  sell  illegal  goods  on  the  dark  web  with links  to a  larger  criminal  network; 
      • Large and/or sophisticated organisations:  for instance,  a  group  who  launders  crypto-asset proceeds  of  crime  in exchange  for  fiat  on  behalf  of  smaller  criminal  organisations.
      • Many Initial Coin Offerings (ICOs) for example appear to be  legitimate,  with the  boards  of  directors comprising  of  personnel  with impressive backgrounds.  Such ICOs  may  be  organised  by  individual actors,  small  groups or  much  larger  sophisticated  groups.

AML Considerations

Despite crypto-assets  often  being  described as  highly  disruptive and  risky,  when considering  the AML risks  associated  with them  it  is  important  to  remember  that  there  are  many  similarities  with traditional  assets,  e.g.  cash.  Whilst  crypto-assets  may  allow  greater  anonymity  than  traditional payment  methods  they  are,  because of  Distributed Ledger Technology (DLT),  often inherently  more  transparent  than  cash.   Basic  risk  assessment  questions  remain  the  same regardless of  the  presence  or  otherwise of crypto-assets  in  a  transaction  or  business  relationship.   

      • Client risk:  “Does  the  client  or  its  beneficial  owners  have attributes  known  to be  frequently used by  money  launderers  or  terrorist  financiers?”
      • Service risk:  Do  any  of  our  products  or  services have attributes  known to  be used by  money launderers  or  terrorist  financiers?” 
      • Geographic risk:  “Is  the  client  established in  countries that  are  known to be  used by  money launderers  or  terrorist  financiers?” 
      • Sector risk:  “Does  the  client  have substantial  operations in  sectors  that  are  favoured  by money  launderers  or  terrorist  financiers?” 
      • Channel risk:  “Does  the  fact  that  I  am  not  dealing  with the  client  face  to  face pose a  greater ML/TF risk?”

It  may  be  helpful  to  consider  the  capacity  in which  the  potential  client  is  approaching  the accountant,  and  the relevance of  crypto-assets  to  the  work. When dealing  with persons who  hold crypto-assets, the  primary  questions  will  be  around  source of wealth and  funds.  Given  the  widespread popularity  of  crypto-assets,  the  mere  presence  of  it  in a client’s  portfolio does not  necessarily  make  it  a high  ML risk.

Accountants should seek to understand how to reconcile existing accounting and finance concepts with new value transactions; equally they should seek to understand how the growth in new financial technologies brings with it a potential corresponding increase in ways to evade the law. Consequently, it pays dividends to familiarise yourselves with crypto-assets if only to ensure  that we protect  ourselves and our clients against risks, while capitalising on the rewards.

They  should bear  in  mind  that,  despite allegations  of  criminality  concerning  participants  in crypto-asset  markets,  there are  many  participants  in such markets  who are legitimate.  These  legitimate participants  are  entitled to accounting,  auditing,  insolvency and tax services.