Crypto gets a market value rating from the FASB | Woodruff Sawyer
The final guidance is part of the project Accounting for and Disclosure of Crypto Assets, formerly called Accounting for and Disclosure of Digital assets (emphasis added). FASB’s project started in mid-2022 and sought to provide guidance on the disclosure and valuation of digital assets.
What digital assets are affected?
The board issued its first project scope in August 2022 with FASB memo No. 4, where it defined which digital assets would be affected. According to the criteria, the assets must
- meets the definition of intangible asset
- does not provide enforceable rights to underlying goods, services or other assets
- are created or reside on a distributed ledger/blockchain
- secured through cryptography
- be interchangeable.
This interesting definition highlights the assets excluded from the project: non-fungible tokens (NFTs), decentralized autonomous organization (DAO) tokens, and many utility tokens that convey rights to a service. ERC20 or ERC20-like tokens and Bitcoin, commonly understood as cryptocurrencies, are all in scope.
Fair value: Entities must report increases and decreases
The second and perhaps most interesting advisory came in October 2022 with FASB Memo No. 6, which provided guidance for asset measurement, or simply, market value. Companies must use fair value accounting for their crypto assets, and the reporting entities must report increases and decreases in each reporting period.
Interestingly, the board does not provide guidance for asset trading with inactive markets or guidance for the application of fair value measurement.
What entities must report
The board issued two further notes on publication and presentation in December 2022.
FASB Memo No. 7 set forth the simple requirements for reporting the preset amount of cryptoassets aggregated and current gains and losses on those cryptoassets. Crypto assets received as payment for goods or services and immediately converted to cash, usually through a payment processor, will be reported as cash flow. This practice simplifies the reporting requirements for entities that use crypto-assets as payments but do not hold them long-term.
FASB memo No. 8 clearly described three requirements for reporting crypto assets such as disclosure, activity reconciliation, and restricted asset notes. The reporting elements for significant holdings of crypto assets include asset name, fair value, shares and cost basis. These items must be reported during annual and semi-annual periods or each reporting period. The activity reconciliation, or roll-forward, is to report additions, dispositions and gains/losses during the period. Furthermore, for disposed crypto-assets, the difference between the selling price and the cost basis must be reported for these disposed assets.
Entities must report:
- Limited crypto assets and their real value
- The nature of the duration of the restriction
- Circumstances which may lead to the lapse of that limitation.
The memo provided no guidance or definition of a restricted crypto asset, but one can assume that crypto assets deposited would meet the criteria.
The reporting requirements apply to all public and private enterprises.
New rules, new risks for board members and managers
The new requirements pose a significant new risk for board members and managers. If your company does not write the value of these assets according to FASB rules, you may underreport the value of your books, which can reduce your stock price. Of course, it opens directors and managers to lawsuits for misrepresentation of the company’s value.
The accounting staff will be required to identify, value and disclose – in a prescribed manner – specific cryptocurrency assets. These assets must be functional currencies and must not confer enforceable rights (eg the right to vote during shareholder votes). That definition excludes DAO tokens due to their administrative rights, but what about other fungible assets? Wrapped Tokens, although viewed as quasi-debentures, may not meet the defined requirements of having no enforceable rights.
The same exclusion may apply to tokens considered securities by the Securities and Exchange Commission. Reliable valuation methods are problematic for cryptoassets without active trading markets. Incorrect valuation methods can contribute to the reporting of deficiencies. In addition, the large fluctuations in valuations that cryptocurrencies have experienced in the past can wreak havoc on balance sheets and income statements.
How to prepare for FASB rule changes
The FASB has not yet announced the final vote. Interested observers should continue to monitor the Board’s project memoranda, as the above proposed rules may change prior to the final vote.
Entities with significant holdings of crypto assets should consult a knowledgeable accounting firm before preparing their financial reports. Public entities should engage a recognized auditor when considering the new accounting rules to maintain compliance and avoid reporting errors.
