Cryptocurrency has seen crashing prices and steep losses over the past year. Even so, interest in these digital assets remains high as policymakers in Washington ramp up discussions over how to approach regulating and taxing them.
In just a few months, $2 trillion of value in crypto seemingly disappeared from the market. As a decentralized medium of exchange, cryptocurrency does not have a central authority to manage its value.
This characteristic has sparked conversation over how lawmakers should regulate cryptocurrency, with President Biden signing an executive order in March 2022 to encourage the responsible development of such digital assets. Among the key goals for this push from the administration are customer protection, financial stability, and management of illicit activities risk. The Treasury Department is also expected to release reports soon that will highlight the economic and financial risks of crypto. Yet reports from financial authorities on emerging services or technologies can serve as placeholders for ill-designed, overreaching regulations that fail to allow innovation and development for the benefit of consumers and taxpayers.
For their part, states have taken a wide range of approaches to regulating digital assets. Many states use existing money transfer policies to apply to the transaction of virtual currencies. Others, such as New York, have established separate frameworks for crypto. With this lack of uniformity, there have been attempts to create nationwide regulatory standards. For example, the Conference of State Bank Supervisors proposed the “Money Transmission Modernization Act,” in the hopes of guiding uniform legislation development.
Introduced in June 2022, the Lummis-Gillibrand Responsible Financial Innovation Act –named for its authors Sens. Cynthia Lummis and Kirsten Gillibrand– is the most “substantial and comprehensive” bipartisan legislative effort thus far to create a regulatory framework for digital assets. The proposed Responsible Financial Innovation Act outlines standard definitions and covers a broad range of issues including Securities and Exchange Commission (SEC) vs. Commodity Futures Trading Commission (CFTC) jurisdiction, tax treatment, and regulation of stablecoins.
The bill clarifies tax treatment for digital assets. Cryptocurrency does not hold legal tender status in the U.S., but it is still widely used for secure transactions. The sale, exchange, or investment holding of virtual currencies is regulated, and generally includes tax liability. From a federal lens, transactions using virtual currency are taxed in the same category as property. The Responsible Financial Innovation Act clarifies more specific cases involving cryptocurrency, making it easier for people to use. For example, cryptocurrency miners are not considered “brokers,” and associated rewards do not have to be declared as taxable income. Under the Responsible Financial Innovation Act, taxpayers using crypto for small sales of goods and services would be protected from burdensome capital gains with a de minimis exclusion from income. Congress must examine tax traps such as these more carefully in many areas of law (such as 1099-K transactions).
Sens. Cynthia Lummis (R-WY) and Kirsten Gillibrand (D-NY) also call for the formation of an advisory committee made up of experts in areas such as consumer protection, financial literacy, and state regulators. This group would be responsible for providing guidance to lawmakers, with an emphasis on staying updated on the rapidly developing industry. The bill would support research into the development of a self-regulatory organization (SRO) that would work alongside the CFTC and SEC to support regulation of digital assets.
The Responsible Financial Innovation Act would classify cryptocurrency as a commodity rather than a security. This would have significant implications for the development of crypto regulation, as the CFTC is a much smaller agency than the SEC. Earlier this year, the Digital Commodity Exchange Act of 2022 was introduced in Congress with the goal of closing regulatory gaps between the two entities and increasing oversight from the CFTC. Although the SEC already has a unit dedicated to cryptocurrency and cybersecurity enforcement, SEC Chairman Gary Gensler has indicated support for Congress giving increased power to the CFTC to regulate cryptocurrency. There appears to be bipartisan momentum for clarifying regulatory authority in the direction of CFTC versus SEC.
Beyond this bill there are other targeted efforts to control specific digital assets. Stablecoins, or virtual currencies with values pegged to traditional currencies, have been debated throughout the year. In July 2022, legislators on the House Financial Services Committee drafted a bipartisan bill that would subject stablecoins to similar regulation as banks. Negotiations have slowed the movement of this bill, but the language predicts tighter federal regulation of cryptocurrency if the legislation were to advance.
The future of cryptocurrencies is still not completely clear, but legislation like the Responsible Financial Innovation Act and the Digital Commodities Consumer Protection Act might help lead to the development of prudent regulatory policy in the coming years.