Treasury shares its views on initial coin offerings
In January 2019, the Treasury released an Issues Paper (Paper) which forms part of its review into Initial Coin Offerings (ICOs). Four key questions are addressed in the Paper:
- what is the clearest way to define ICOs and different categories of token?
- what are the key drivers of the ICO market going forward?
- what are the opportunities and risks posed by ICOs?
- what changes, if any, are needed to Australia’s current regulatory and tax treatment of ICOs?
Definition and token categories
Although there is no widely-adopted definition of an ICO, the Paper notes that it involves:
‘… the creation of digital tokens by an issuer using distributed ledger technology (DLT). The tokens are acquired by investors and potential consumers through online auction or subscription, typically in exchange for a cryptocurrency such as Bitcoin or for official fiat currency such as United States dollars.’
It also noted that there are many types of tokens available, including:
- a ‘currency’ token (also referred to as a ‘stablecoin’) which is linked to another digital currency;
- an ‘equity’, ‘asset’ or ‘investment’ token, which is the right to a promised future cash flow linked to an underlying business or investment;
- a ‘utility’ or ‘access’ token, which grants a right to access a future product or service; and
- a ‘security’ token, which has the characteristics of a financial product.
Drivers, opportunities and risks
The Paper also explores the key drivers, opportunities and risks associated with the ICO market. Four potential drivers of the ICO market were identified in the Paper, being:
- developments in distributed ledger technology;
- digital token creators developing ICOs as a new funding model;
- investor ‘exuberance and speculation’ resulting from the opportunity to purchase tokens in early stage start-ups, rather than wait for shares to be offered through an initial public offering; and
- the growth of digital token exchanges and digital wallet providers which provides liquidity for digital tokens and creates other opportunities.
It was acknowledged that ICOs presented a variety of opportunities to Australian businesses, including the potential to contribute to economic growth by fostering innovative technology and creating a more flexible and efficient environment for capital raising. However, the Paper also recognises that there are corresponding risks. Concerns about investor protection (for example, scams, fraud, ambiguous or inadequate regulatory obligations for ICO issuers or non-compliance with regulatory obligations by ICO issuers), operational and infrastructure security risks associated with the underlying products and volatility risks are among those listed in the Paper.
Regulatory treatment of ICOs
Existing regulatory framework
As noted in the Paper, a key challenge in accommodating ICOs within the existing regulatory framework has been determining when an ICO token is a financial product and is therefore subject to financial services and securities laws under the Corporations Act 2001 (Cth) (Corporations Act). Due to the varied and dynamic nature of ICO tokens, the nature of the rights and features attaching to an ICO token must be considered in order to determine whether it is a financial product. For example, an ICO may constitute a managed investment scheme, share offering, derivative, or a non-cash payment facility. Persons who deal in such financial products are generally required to be licensed and to comply with disclosure, registration and other obligations in relation to offering a financial product.
If the ICO token is a financial product, consumers are protected by the relevant provisions for those financial products under the Corporations Act. If the ICO token is not a financial product, however, ICO issuers are still subject to general law and the misleading and deceptive conduct prohibitions under the Australian Consumer Law. The ACCC has delegated certain powers to ASIC to enable it (if required) to take action under the Australian Consumer Law relating to ICOs.
Possible changes to the existing regulatory framework
The Paper posed a number of questions to industry participants regarding the effectiveness of the existing regulatory framework and what changes need to be made, including whether:
- there is ICO related activity which does not fit within the existing regulatory framework for financial products and services that should be included;
- the existing regulatory framework enables ICOs and the creation of a legitimate ICO market, and if not, why and how it could be changed to support the ICO market;
- adjustments to the existing regulatory framework could be made which would better address the risks posed by ICOs;
- a code of conduct would assist to build confidence in the ICO industry, and if so whether such a code of conduct should be subject to regulator approval; and
- there are any other measures which could be taken to promote a well-functioning ICO market in Australia.
Tax treatment of ICO tokens
ICO tokens are usually considered an asset for tax purposes and any capital gains may be subject to capital gains tax or to being taxed as ordinary income, depending on the purpose of the acquisition. The Paper highlighted that the tax treatment of ICO tokens depends on the nature of the returns and the purpose of the holder in acquiring the tokens.
A copy of the Issues Paper can be found here.
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