We previously published CRYPTO: Accounting for non-monetary asset? which detailedly discussed background of cryptographic assets and it’s accounting, with an initial take on its applicability in the Philippine setting. While we emphasized that there is currently no clear guidance as to how we should account for cryptographic assets, which maybe a reason for diverse accounting treatment. The Philippine Interpretations Committee (PIC) approved PIC Q&A No. 2019-02 discussing Accounting for Cryptographic Assets in February 2019.
We have previously established that cryptographic assets are not legal tender and therefore cannot be accounted as cash. But how do we really account for them in the Philippines?
The interpretation covered the following items:
- Accounting for cryptocurrencies held by an entity
- Accounting for cryptographic assets other than cryptocurrencies held by an entity
- Accounting for crypto tokens by the issuer
Based on the interpretation, the characteristics that are being most relevant or classifying cryptographic assets for accounting purposes are:
- the primary purpose of the cryptographic asset; and
- how the cryptographic asset derives its inherent value.
Subsets of Cryptographic Assets
There are four possible specific subsets of cryptographic assets, as set out in the following table:
|Cryptocurrency||Cryptocurrencies are digital tokens or coins based on blockchain technology, such as Bitcoin. They currently operate independently of a central bank and are intended to function as a medium of exchange. Examples of cryptocurrencies are Bitcoin, XRP, Ethereum, Bitcoin Cash, EOS, Stellar, Tether, Litecoin, Tron, and Bitcoin SV||None – derives its value based on supply and demand|
|Asset-backed token||An asset-backed token is a digital token based on blockchain technology that signifies and derives its value from something that does not exist on the blockchain but instead is a representation of ownership of a physical asset (for example, natural resources such as gold or oil).||Derives its value based on the underlying asset.|
|Utility token||Utility tokens are digital tokens based on blockchain technology that provide users with access to a product or service and derive their value from that right. Utility tokens give holders no ownership in a company’s platform or assets and, although they might be traded between holders, they are not primarily used as a medium of exchange.||Value is derived from the demand for the issuer’s service or product.|
|Security token||Security tokens are digital tokens based on blockchain technology that are similar in nature to traditional securities. They can provide an economic stake in a legal entity: sometimes a right to receive cash or another financial asset, which might be discretionary or mandatory; sometimes the ability to vote in company decisions and/or a residual interest in the entity.||Value is derived from the success of the entity, since the holder of the token shares in future profits or receives cash or another financial asset.|
It should be noted that some cryptographic assets might exhibit elements of two or more of the identified subclasses. These result in hybrid cryptographic assets that will have to be assessed further. The PIC Q&A focuses on cryptographic assets that carry simple features, instead of hybrid tokens.
As stated in the related PIC Q&A, PFRS does not include specific guidance on the accounting for cryptographic assets and there is no clear industry practice, so the accounting for cryptographic assets could fall into a variety of different standards. Consideration should also be given to the entity’s purpose for holding the cryptographic assets to determine the accounting model. The accounting standards and other considerations that might be relevant to the subsets of cryptographic assets are presented below:
Accounting for cryptocurrencies held by an entity
- Cryptocurrencies can be treated as Inventory under PAS 2, “Inventories”
Inventory accounting might be appropriate if an entity holds cryptocurrencies for sale in the ordinary course of business for entity that actively trades the cryptocurrencies, purchasing them with a view to their resale in the near future, and generating a profit from fluctuations in the price or traders’ margin. Inventories are measured at lower of cost or net realizable value, unless the holder is a commodity broker-trader, in which case it may be measured at fair value less costs to sell.
However, if the entity holds cryptocurrencies for investment purposes (that is capital appreciation) over extended periods of time, it would likely not meet the definition of inventory.
- Cryptocurrencies can be treated as Intangible asset under PAS
Cryptocurrencies appear to meet the definition of an intangible asset: identifiable as can be sold, exchanged or transferred individually; not cash and non-monetary asset; have no physical form.
PAS 38.12 describes an asset as identifiable if it is separable (i.e., it is capable of being separated or divided from the entity and sold, transferred, licensed, rented or exchanged) or if it arises from a contractual or legal right.
An intangible asset shall be measured initially at cost. After initial recognition, the entity can choose either the cost model or the revaluation model as its accounting policy. Under the cost model, an intangible asset shall be carried at its cost less any accumulated amortization and any accumulated impairment losses.
Accounting for cryptographic assets other than cryptocurrencies held by an entity
A similar thought process shall apply when considering the accounting for cryptographic assets other than cryptocurrencies.
- Crypto tokens with the characteristics of asset-backed tokens.
Asset-backed tokens may give the holder a right to an underlying asset. These tokens may be used to transfer the ownership of underlying assets without physically moving them. It is a means to transact the underlying asset at minimal cost. As a result, the accounting will likely be driven by the nature of the underlying asset and the relevant accounting standard.
- Crypto tokens with the characteristics of utility tokens
Utility tokens usually give the holder a right to future goods or services. These tokens are a prepayment for goods or services. A prepayment for goods or services might meet the definition of an intangible asset and PAS 38 could be applied. Where it does not meet the definition of an intangible asset, it is accounted for similar to other prepaid assets.
- Crypto tokens with the characteristics of security tokens
Security tokens might give the holder a right to cash, based on the platform’s future profits or a residual interest in the net assets. Such rights might be discretionary or mandatory and might be accompanied by the ability to vote to impact decisions relating to the underlying platform. A contractual right to cash or another financial asset may exist in these circumstances, in which case, these security tokens meet the definition of a financial asset subject to PFRS 9.
- Crypto tokens with hybrid characteristics
Crypto tokens exhibiting elements of two or more subclasses require further analysis and judgement is required to determine the applicable accounting treatment. Factors to consider will include the interaction of contractual clauses, their substance and relevance in the context of the overall characteristics of the token.
Accounting for crypto tokens by the issuer
The following table provides a possible analysis framework of accounting models to consider when determining the nature of, and accounting for, the issued ICO token. Consideration of the contract terms is needed, to understand the obligations of the issuer.
|Does the ICO token meet the definition of a financial liability?||Apply guidance in PFRS 9|
|Does the ICO token meet the definition of an equity instrument?||Apply guidance in PAS 32|
|Is the ICO token a prepayment for goods and services from a contract with a customer?||Apply guidance in PFRS 15|
|Does the ICO token not meet any of the above?||Consider other relevant guidance|
Consider other relevant guidance
Where none of the above considerations appears to be relevant, the hierarchy in PAS 8 should be considered in determining the appropriate accounting treatment. We believe that it is unlikely that issuers will receive consideration without taking on an obligation to the subscribers. Even if the arrangement does not give rise to a financial instrument or a promise to deliver goods or services to a customer, there is likely to be a legal or constructive obligation to the subscriber. This might result in the issuer recognizing a provision in accordance with PAS 37, ‘Provisions, Contingent Liabilities and Contingent Assets’.
PIC Q&A 2019-02 was approved by the Philippine Interpretations Committee on January 30, 2019 and is approved by FRSC and effective on February 13, 2019.
Click here to download PIC Q&A 2019-02
Indeed it is very challenging to identify the proper accounting treatment of these new types of transactions especially that these are “new” and a little “complicated” to understand. It is even more complicated when these ‘cryptocurrencies’ are not issued by a jurisdictional authority or other party and/or does not give rise to a contract between the holder and another party. It is therefore very important for us, accountants, to understand the substance of the transaction to properly account for it.
The International Financial Reporting Interpretations Committee (IFRIC) is currently working on a project called “Holdings of Cryptocurrencies” and is now in the “final stage”. The Committee noted that a range of cryptoassets exist. For the purposes of its discussion, the Committee considered a subset of cryptoassets with all the following characteristics that this agenda decision refers to as a ‘cryptocurrency’:
- a digital or virtual currency recorded on a distributed ledger that uses cryptography for security.
- not issued by a jurisdictional authority or other party.
- does not give rise to a contract between the holder and another party.
Hopefully, this project will shed more light on how we should account for cryptographic assets, particularly cryptocurrencies which are not backed by any other assets nor give rise to any contract between parties.
We’re happy to hear your thoughts! Feel free to let us know what you think about this topic. 🙂