ICOs & Cryptocurrency: Australia Regulation on the Initial Coin Offering
What is an ICO?
An ICO is an abbreviation that is short for Initial Coin Offering. Similar to the way an Initial Public Offering (IPO) works for a stock, an ICO is the first time a particular cryptocurrency is available to the public for purchase. For people interested in investing in cryptocurrency, an ICO presents a unique opportunity to own a token that could significantly increase in value, but just like any investment, there are inherent risks (i.e., losing everything).
An ICO functions as a type of fundraising for a new project that is being launched. These types of projects vary widely, and can range from something as simple as a new cryptocurrency by itself, to something more intricate like a new smartphone application or new type of service offering.
An ICO could even be something as complex as an investment in solar farms here in Australia or sustainable, environmentally-friendly gold mining in Ghana. Essentially, an ICO is a new take on crowdfunding, and there really is no limit to the types of projects that can be funded by ICO’s.
How does an ICO work?
When a project hopes to raise funds through an ICO, it issues a specific number of tokens. Tokens are then made available to investors on a specific date at a specific time. The Issued tokens are then exchanged for fiat currency or even another, more established cryptocurrency like Bitcoin or Ethereum. Ethereum is still the most popular cryptocurrency exchanged for tokens during an ICO.
So what is a token exactly? The precise definition of a token is difficult to pinpoint, but to put it in general terms, a token is a digital representation of a specific task, role, or value within a particular crypto-economic ecosystem.
A token’s role may include granting permission, delivering voting rights, or staking. A token’s value could function as the incentive for priority in block confirmation, or even have monetary value outside of an ecosystem. Tokens are not always limited to one use, however, and sometimes have multiple functions within a crypto ecosystem.
Unfortunately in the history of ICO’s, there have been more than a few scams. In the early days of cryptocurrency, the lack of general knowledge about the inner workings of token sales created many opportunities for fraud. This, coupled with the lack of scrutiny and regulations around ICO’s, made it very easy to take advantage of investors.
There are a few ICO scams that were so bold that they still are remembered today, and likely played a role in the eventual regulation of ICO’s.
The Notorious Bitcoinnect
One of the most notorious ICO scams of all time has to be Bitconnect. Promoting itself as a token that powered a “trading bot and volatility software” for cryptocurrency, Bitcoinnect promised to deliver high returns to investors who staked the token. Bitconnect guaranteed 1% returns compounded daily, which would yield a sizable 30-31% profit per month (with a possibility of up to 40%).
Within a very short amount of time, Bitconnect drew a lot of scrutiny. Authorities in the US and the UK forcing them to suspend operations in those countries. Before shuttering its operations to thousands of investors, Bitconnect’s founders amassed roughly $14.5 million USD, according to the Financial Express.
The Pincoin and iFan Super Scam
Sadly, Bitconnect is far from the first or even most successful ICO scam in history. In terms of dollars stolen, the biggest ICO scam of all time was the Pincoin and iFan scam. Modern Tech, a Vietnamese company first launched a cryptocurrency investment token to investors which was essentially a modern day pyramid scheme. Promising a whopping 48% profit per month, Pincoin quickly enticed many investors.
Yet at the height of its profitability, the time when most pyramid schemes take the money and run, Modern Tech instead had a second ICO. This time it was for a project called iFan, which was essentially a “social network token for celebrities”. Due to the quick reputation that Modern Tech had gained with the success of Pincoin, they were able to attract a significant number of investors to its iFan ICO. However, immediately after the iFan ICO, the Modern Tech team absconded with all of the Pincoin and iFan money, totalling mind-blowing $660 million USD.
Are CIOs still relevant?
Does this mean that all ICO’s are scams? Not at all. After the notoriety of these and other ICO scams, ICO’s quickly gained the attention of regulatory bodies in many countries, and legislation followed. Governmental organizations like the IRS in the US and the Australia Tax Office (ATO) made laws to prevent their citizens from falling prey to these types of scams. As a result, investing in ICO’s has become rigorously regulated and more secure, maintaining its original function of being one of the easiest ways for retail investors to fund and profit from blockchain and cryptocurrency projects.
According to Blockchain Australia (October, 2019), $26B has been raised by ICOs to date. Although some of that money went straight into the hands of greedy founders who exited at the coin’s highest value, a lot went into funding legitimate projects that have true merit. Projects that still exist and build out the crypto ecosystem today.
Here in Australia, we have a .8% of the global ICO market. Considering Australia’s population is only .33% of the entire world, we have an ICO market output that is 142% higher than the population we have. In order to continue incubating this environment, some countries are building regulatory landscapes that cater to ICOs. They have added to the growing movement of crowdfunding that has splashed on to the fundraising scene.
With potential to continue to grow, Australia will continue to be contributors to the global ICO market for a long time to come.
Ethereum: A Good Apple
Ethereum, the second largest cryptocurrency by market cap, raised 2,400 BTC within the first 12 hours of it’s token sale, which at the time was equivalent to $2.4 million USD. That same amount of Bitcoin would be worth approximately $25.7 million USD today. Ethereum remains the most popular platform for launching new projects, so it still has a long future ahead of it.
Other ICO’s, like the scams mentioned above, have come and gone quickly, and after the regulatory bodies stepped in, many potential scammers are not willing to take the risk. Most of the bad apples have been shaken from the tree, and the remaining projects still have a lot of potential. While it has become more difficult to invest in ICO’s, this also means it is more secure to invest in ICO’s, ensuring that ICO’s are still relevant, even today.
How to Participate in ICOs in Australia
Part of the reason that makes ICOs so complicated around the world is the varying regulation that each country has. Even on the same continent, you can have dozens of countries with a complex spectrum of stances on how cryptocurrency should be treated, or if it will be legal at all.
There are a few options when it comes down to participating in an ICO. Sometimes a coin will have a direct listing on its website. Other times the coin will be listed on an exchange like Swyftx where you can buy and sell it.
Australia Cryptocurrency Regulation
In Australia, if a company is issuing crypto-assets that may be classified as a financial product, then the entity must hold an Australian financial services (AFS) license. In fact, any person or entity that gives advice, deals with, or provides any other intermediary services for crypto assets, must be registered with an AFS.
Bear in mind, this is the financial regulation that governs the ICO, but the taxation regulation that governs it is different. That is overseen by the Australia Tax Office.
Risks Involved with Cryptocurrency: Australia & Risks Involved in the ICO Process
Just like any investment, there are inherent risks associated with investing in Bitcoin. If you were a real estate owner, flooding could damage your property. If you own a stock in the stock market, the company’s executive team could be caught in a scandal and plummet the value. With Bitcoin, a number of risks could take away from your potential investment return.
Similar to the dangers involved with real-estate or stock investing, cryptocurrency has the risk of loss in value. However, what makes cryptocurrency especially perilous is the fact that transactions are irreversible. Since transactions are computer-code enforced, and thereby enforced by logic, once the conditions for a transaction are met, the transaction will execute. In other words, once you input the public address of the location you want your transaction to go to, and you click confirm, the transaction is sent.
Market Volatility in Cryptocurrency
Cryptocurrency is known to have a high level of volatility. In one year alone, the price of a bitcoin can fluctuate hundreds of percentage points. Bitcoin has become less volatile over time., however, 5-10% changes in a single day aren’t uncommon.
The ICO as a Management Investment Scheme
Any entity that is raising money through an ICO must meet a number of legal requirements when raising funds in Australia. Some of those legal requirements include meeting certain provisions within the Corporations Act as well as other compliance required by Australia Financial Services. Another aspect of regulation that an ICO must consider is whether the entity falls under a managed investment scheme (as most ICOs do).
A managed investment scheme allows a group of investors to pool their funds together in order to invest in a shared investment with a goal of producing financial benefit. An ICO can be considered a Management Investment Scheme if it meets the following three criteria, according to Australia Securities and Investment Commission (ASIC):
- People contribute money or assets to obtain an interest in the financial product. The interests of the product are generally financial products and thus overseen by Australia’s Corporations Act.
- Contributions to the scheme are pooled with the goal of using those contributions to produce a financial benefit or interests in property.
- Any contributor does not have day to day control but may have rights (e.g., voting).
These consideration points are important in determining the status of an ICO as a Managed Investment Scheme. What it comes down to is whether the pooling of funds or the use of the funds can affect the value of the asset. If those points are met, then the vehicle is likely to be considered an ICO.
ICOs and the Australian Tax System
Financial classifications as mentioned above are on thing, however, the nitty gritty of how ICOs are taxed is a whole other beast. In general, the ATO hasn’t released any specific guidance on this topic, so any time you are involved with the exchange or sale of a token, you have created a taxable event.
While there aren’t complicated laws that govern ICOs, there is still much to be desired. According to an October 2019 ICO status report by our partners at Blockchain Australia, companies are arguing for tax regulation that will create a more competitive blockchain ecosystem. Under the current legislation, Blockchain Australia argues that considering that ICOs are taxed similar to income, the growth is stifled.
Instead, Blockchain Australia contends that company proceeds raised via token issuance should be considered ‘not assessable for income taxes. They argue that this is the equivalent of the treatment given to companies that partake in traditional capital raises.
What taxes apply to ICOs?
The type of taxes that apply to ICO’s vary from country to country, and there is not one specific tax code that is universally applicable. While the Internal Revenue Service (IRS) of the USA may tax ICO’s in one way, the ATO taxes it in an entirely different way. Currently, ICOs in Australia are taxed similar to how other tokens are taxed. There is not a specific legislation that deals with ICOs.
While cryptocurrency has a generous tax environment in Australia, ICOs miss out on special benefits. That is especially true when you compare Australian taxation of ICO’s to traditional capital raises. Australian tax bodies do not view ICO’s in the same way that they view traditional capital fundraising. As a result, any money raised through an ICO is taxed as income.
Australia’s High Corporate Tax Rate
Another disadvantage of the current tax system in Australia with respect to ICO’s is the high corporate tax rate. Whereas in countries like the US, which have very favorable corporate tax rates, one easy way to shelter funds raised from an ICO is to form a corporation beforehand. This avoids personal liability for the taxes on the income from an ICO, and thus taxes it at the corporate rate instead.
However, in a 2019 survey of the corporate tax rates of the 13 countries most active in the ICO space, Australia had the second highest corporate tax rate, around 30%. Only France had a higher tax rate, at 31%, however they are planning to reduce their corporate tax rate to 25% by 2022. This leaves Australian investors at a disadvantage with regard to ICO’s due to the high tax rate they face and the lack of feasible options to avoid this tax.
What special regulations apply to ICO investors?
ICO investors in Australia have contributed an output volume that is 1.5x their population, but the regulatory nature of ICOs is a bit tricky. When it comes down to ICO taxes in Australia, investors do not have any particular ICO laws that must be abided by. Instead, anyone that participates in an ICO is treated the same way as someone that buys, sells, or trades a non-ICO cryptocurrency.
How to Buy Digital currency
For those interested in investing in cryptocurrency like Bitcoin, the first thing they need to learn is how to buy digital currency. There are three basic steps that you need to take in order to own cryptocurrency.
Step 1) Get a digital wallet
Just like the way physical money has to be stored somewhere, like in a bank account or in your wallet, the same is true for cryptocurrency. Without a digital wallet to hold it in, you have no way to send or receive any cryptocurrency. There are two main types of wallets, a software wallet and a hardware wallet.
A software wallet is a piece of software that you download onto your computer, or that can be accessed online through a website or app. Essentially these types of wallets store your private keys on your hard drive or securely online, so that you only need to provide your public key to receive cryptocurrency.
A hardware wallet is a small piece of hardware that you connect to your computer in order to send and receive cryptocurrency. By storing your private keys offline, it adds another layer of security to the process.
Step 2) Sign up for an exchange
Unless you personally know someone who is willing to just send you cryptocurrency for free or exchange it for cash, it is very difficult to purchase or own any cryptocurrency without signing up for an exchange first.
Many cryptocurrency holders purchased their first crypto through an exchange. While there are a number of exchanges that exist globally, there are advantages and disadvantages to each one. Some have very low liquidity which can cause serious problems when there is a massive sell off of a particular cryptocurrency.
Others have restrictions regarding where they can operate and who can sign up. It is critical to research an exchange before signing up, as this is one of the most important decisions that you can make when starting in virtual currency trading.
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Step 3) Link to a bank account
This is a vital step when investing in cryptocurrency. Unless you have a way to get fiat money into and out of the system, you have virtually no way to buy cryptocurrency and cash in your profits.
Another important aspect to consider when signing up for a cryptocurrency exchange is whether or not you can link a bank account to it. Even some of the largest and most famous cryptocurrency exchanges, like Binance for example, do not allow you to link a bank account, so there is no way to deposit or withdraw money. As a result, it would be impossible to use this exchange by itself to buy or sell cryptocurrency for fiat currency.
Ideally you should look for an exchange that not only meets the liquidity and security criteria, but also one that allows you to link a bank account. Cryptocurrency exchanges such as Swyftx deliver a platform where users can buy and sell cryptocurrency all in one place. Platforms like this are the most convenient when investing in cryptocurrency, and the best place to start when beginning virtual currency trading.
ICOs vs Cryptocurrency
Initial Coin Offerings are the initial event in which a coin first becomes available to the public. However, cryptocurrency is the word used for the types of coins that are typically used in ICO’s, as well as the name for the type of coin used by the likes of Bitcoin, Ethereum, and Litecoin.
The field is referred to as cryptocurrency because the coins are built on a consensus model and secured by cryptography. According to an Investopedia article called “Explaining the Crypto in Cryptocurrency,” there are several ways cryptography is used in cryptocurrency. Those ways include but are not limited to transaction security, transfer verification, and new coin production oversight.
ICOs vs the Stock Market
Cryptocurrencies are more similar when compared to the traditional stock market than you may think. Just like Amazon or any other public company that has a publicly traded stock, cryptocurrencies are bought, sold, and traded in places called exchanges. An exchange like Swyftx is the cryptocurrency equivalent of the Australian Securities Exchange. Except that users are the ones making all of the executions, and there are fewer intermediaries.
There is also less time needed for clearing, which is part of the beauty of cryptocurrency’s liquidity. When you trade a stock like Apple in the traditional stock market, there is a multi-day clearing process that makes you wait to get your funds. However, cryptocurrency does not have the same long, drawn-out process.
When it comes to company listings, stock markets typically have somewhat established companies become public on an exchange. For example, when Peloton went public in the USA in 2020, it had already been valued at $8-billion dollars. That number was based on real sales brought on by what was already hundreds of thousands of users paying for the cycling platform.
On the other hand, ICOs do not necessarily have this sort of adoption behind them. New companies that have coin offerings sometimes might not have more than an Minimum Viable Product developed. However, despite once being in its infancy (and arguably still infant) Ethereum has gone on to launch platforms that are used by the likes of BMW, Google, HSBC, Amazon Managed Blockchain, and the United Nations. ICOs can grow on to become something great.
Frequently Asked Questions:
Is Bitcoin safe and legal in Australia?
Bitcoin is legal in Australia and can be used to trade or buy and sell goods and services in the country. It falls under the regulation of the ATO. Anyone that acquires or disposes of cryptocurrency in Australia should keep careful records of the date, time, and values that correspond with the transactions.
Just like any other country, there have been security breaches within the Australian cryptocurrency arena. Any time there is a hack, the safety of Bitcoin is questioned, however, there are ways that you can protect your cryptocurrency that decreases your risk of exposure.
Is Bitcoin real money?
What defines real money? Is it money that is backed by a government, or merely a medium through which two or more individuals can exchange? A store of value? All of those criteria are considered when it comes to calling Bitcoin ‘real money.’
The cryptocurrency often draws comparisons to gold due to its scarcity. Gold is thought to be scarce because there is only so much of it that will ever be able to be mined, in theory. Unless of course you believe Elon Musk’s vision of mining gold off of asteroids, which may negate the scarcity of the precious metal.
Bitcoin on the other hand is scarce because only 21,000 Bitcoin are programmed to be in circulation. However, due to the number of Bitcoins that are lost (expected to be as high at 20% of the supply, or 4.2 million Bitcoin), Bitcoins become more scarce everyday. Just think, every time someone loses their private key, those tokens are essentially burned forever, thus adding to the digital scarcity of Bitcoin.
Terms to Know
Issuers of crypto-assets (e.g. tokens): If you’re issuing tokens that may be classified as a financial product, you’ll be subject to an AFS license. According to ASIC’s website, the AFS license allows the issu1er to do things like provide advice to a client, deal a financial service or product, create market making, operate a scheme that is registered, trustee services, and deliver additional services like deposits and custodianship.
Crypto Asset Intermediaries: If the service you provide or perform is covered under the criteria in the ADS licensure process, ASIC recommends that you look at Part C of its guidance on Initial Coin Offerings and Crypto Assets.
Miners and transaction processors: As an integral part of the clearing and settlement process, miners and transaction processors can be considered financial products. As such, appropriate legislation for financial products such as regulations from ASIC and the AFS should be considered.