Disclosure Vs. Anonymity: Why Cryptocurrency Investments Are Doomed to the Fringe

Cryptocurrencies have grown in popularity and regulators have caught on. In mid-2017, investment authorities in the USA and Canada noted that they are most likely securities and must therefore comply with applicable laws. In my view, this poses an existential challenge for all cryptocurrency investments.

The problem

The defining feature of cryptocurrencies is anonymity. One can transfer a virtual coin, like Bitcoin or Etherium, to another without any trace or record. That means payment for goods and services, legal or illegal, can be done with practically no means of knowing who sent or received the payment.

But anonymity is generally not acceptable in the investment world. Securities laws mandate a concept called disclosure, particularly when raising capital from a broad base of investors. In essence, potential investors need to be provided with all relevant information about an opportunity so that they can make an informed choice. Some of what they need to know may include:

  • Who operates the business venture
  • Management strategy
  • How management is paid
  • Management’s employment history
  • What the investment will be used for
  • How the investment will be repaid
  • Tax implications of investing
  • Risks of investing
  • Conflicts of interest
  • How they could earn a return

Disclosure is often done through lengthy (often 100+ pages) formal documents, such as prospectuses, offering memoranda and private placement memoranda. Failing to disclose material information, or misrepresenting details, is a prosecutable offense.

Beyond disclosure, companies who raise money from investors may also have a legal obligation to know who their investors are. Securities, anti-terrorism and anti-money laundering laws often disallow a company from accepting capital blindly.

Further, accepting capital from investors in the wrong jurisdictions can have negative tax consequences. For example, if a tax-exempt Canadian entity accepted money from an American investor, it might lose its exemption. The managers would therefore have a duty to its investors to know who they all are.

The challenge for cryptocurrency investments

If investors cannot participate anonymously, and if a company cannot raise money anonymously, then what is the point of doing so through a cryptocurrency? Why not just purchase shares conventionally and write a cheque? What’s the difference?

An advocate might still argue that raising capital through cryptocurrencies is attractive because of the ability to reach investors internationally. However, each country has its own investment regulations. A company raising money must be compliant with the laws of the jurisdiction in which it operates. It would have to follow the regulations in every single country (each province/state often has its own laws, too) that it has an investor in. That could mean being compliant in hundreds of jurisdictions, which is practically impossible. As such, the company would not have the broad reach that cryptocurrencies can provide.

Even if a company wanted to raise capital in a single jurisdiction, it could be onerous to do so legally. For instance, a company may choose to raise capital from American investors only and would aim to comply with US securities laws. But how could it verify that its investors are indeed American if the transactions are unidentifiable?

It is true that not everyone participates in cryptocurrencies solely because they are anonymous. Some buy in to crypto offerings, like Initial Token Offerings (ITOs) and Initial Coin Offerings (ICOs), as speculative investment opportunities. But it is unlikely that such an offering would be attractive if it lost its ability to be anonymous. Would it even be a cryptocurrency anymore?

Conclusion

The key feature of cryptocurrencies – remaining anonymous – simply doesn’t jive with the securities industry. For that reason, they will always remain a fringe investment. In most cases, cryptocurrency investment offerings will also be illegal (ICOs are banned in China). Most do not have the knowledge or financial resources to structure them in a manner that is compliant with the law.

About The Author

Alexis Assadi

Alexis Assadi is an investor, entrepreneur and writer, who advocates for making high-performing income investments and the lifelong pursuit of financial intelligence. He is a shareholder and director in three companies that provide funding to small businesses, entrepreneurs and real estate projects. His most recent venture is a firm called Pacific Income LP.

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