Author | Giles Mitchell & Jean Kizito
Original article published in April 2023
- Chain Game Weekly Report Community Game Platform Iskra Generates $8 Million in Annual Revenue, Two Recommended Games on Base Chain.
- UK FATF Recommendation 16 new regulations take effect today. Are you ready?
- LianGuai Daily | Coinbase adds support for PYUSD; X is about to launch video and audio call features
Is the Cryptocurrency Asset Report Framework (CARF) of the Organization for Economic Cooperation and Development (OECD) consistent with the Directive on Administrative Cooperation (DAC) of the European Union, and how do they collaborate in regulating tax issues related to cryptocurrencies?
Over the past decade, the use of alternative payment and investment methods such as cryptocurrency assets and digital currencies has grown rapidly. This growth has attracted extensive attention from global regulatory agencies, leading to the issuance of various proposals and frameworks to ensure that recent progress in tax transparency keeps pace with the evolving financial landscape and guarantees tax obligations on cryptocurrency assets and digital currencies. The latest framework that plays a leading role in this regard is the Cryptocurrency Asset Report Framework (CARF) and the Common Reporting Standard (CRS) amendment, issued by the OECD in October 2022.
Like the existing tax and regulatory frameworks such as the CRS in 2014 and the Financial Action Task Force (FATF), CARF is a global tax transparency framework for automatic exchange of tax information on cryptocurrency asset transactions. CARF applies the due diligence requirements of CRS to Reporting Cryptocurrency Asset Service Providers (RCASPs) with reporting obligations, requiring them to provide detailed reports on cryptocurrency asset transactions. In addition to CARF, the proposed CRS amendment also includes cryptocurrency assets in the definition of financial assets, which means that custodians and investment entities will need to comply with CRS requirements and report and record all cryptocurrency asset users. Based on the proposed CRS amendment, central bank digital currencies and specific electronic currency products are also included in the definition of institutional deposits, but they are not within the scope of reporting defined by CARF.
CARF is an independent framework composed of rules and commentary that can be transposed into domestic law. In December 2022, the European Commission became the first organization to attempt to transpose CARF and the CRS amendment into law. To this end, the European Commission issued the seventh amendment to the Directive on Administrative Cooperation (Directive 2011/16/EU), known as DAC8. Although DAC8 uses the Markets in Crypto-assets Regulation (MiCA) instead of the definitions in CARF, it is generally consistent with CARF and includes the proposed CRS amendment by the OECD.
However, there are also some significant differences between CARF and DAC8, which will be discussed in the following sections.
1. Effective Date: CARF currently does not have an effective date, while DAC8 will take effect on January 1, 2026, for RCASPs (identity verification services will take effect from January 2025, and TIN verification will take effect from January 2027). Financial institutions/RCASPs will need to update their processes and systems to correctly obtain the necessary information on cryptocurrency assets.
2. Extraterritorial Impact: DAC8 requires non-European Union RCASPs that provide cryptocurrency services to the European Union to register with European Union member states and comply with the due diligence and reporting requirements of the registered member states. Although this does not apply to RCASPs in non-European Union jurisdictions that adopt CARF (as they will be considered in qualified non-European Union jurisdictions), non-European Union RCASPs in countries/regions that have not adopted CARF may need to develop processes and control measures to ensure that their European Union clients comply with DAC8 for record-keeping and reporting purposes.
3. Transaction Blocking: According to DAC8, if an RCASP does not obtain the required information within 60 days and after two followers, it must block Cryptocurrency Asset Users (CAUs) from conducting transactions on exchanges. This means that the RCASP will need to establish a robust control system to track its file requests and block future exchange transactions in the absence of valid information. This may be operationally challenging and may conflict with the legal and contractual agreements of the RCASP. In contrast, according to CARF, if an RCASP does not obtain the required information within 60 days, it is required to report the CAU as a reporter and determine if there are any controllers (if there is an entity). Although this also requires the RCASP to implement new controls and processes, the impact on the RCASP and CAU may be significantly different from the requirements of DAC8 to block future transactions.
4. Notification of Data Reportable to Individual Customers: DAC8 requires the RCASP to inform individuals that the data they provide will be used for reporting purposes and then send all reporting information to the individual before submitting the data to the tax authority. The RCASP must also provide all information required by the General Data Protection Regulation (GDPR) as required by data controllers, similar to the current CRS customer notification requirements applicable in various jurisdictions. CARF does not require this.
5. Penalties: The proposal stipulates that if reporting is not done after two valid administrative reminders, or if the provided information contains incomplete, inaccurate, or false data, and exceeds 25% of the reported information, the minimum fine should be imposed. These minimum penalties range from 50,000 euros (20,000 euros for individuals) to 500,000 euros. The European Commission evaluates the penalties every five years. Therefore, the RCASP must ensure that its controls and processes are in place to obtain, store, and report all relevant information and verify its accuracy.
The European Commission has requested all parties involved to raise any concerns and provide feedback on the proposed DAC8 by March 30, 2023, and is currently reviewing the feedback received.
Implementing CARF and DAC8 may require significant system and process development for financial institutions/RCASPs. This is particularly important for entities that were not previously subject to FATCA and CRS and may not have due diligence and system infrastructure. Some financial institutions may also be RCASPs and may need to report accounts under CARF and CRS. This means that financial institutions/RCASPs need to not only identify which clients’ assets need to be reported but also determine which regime to report under and configure their systems to select the relevant information for each regime.
In other words, RCASPs and financial institutions within the scope of DAC8 jurisdiction are likely to face greater difficulties in implementing and complying with this directive compared to RCASPs and financial institutions within the CARF jurisdiction (as it stands currently). As mentioned above, the European Union is the first country or organization to attempt to convert the CARF and CRS amendments into laws, and the negotiation period is not yet over. Therefore, we expect the European Council to make some modifications to the DAC8 directive after receiving industry feedback. Similarly, other countries are also likely to convert CARF and CRS amendments into laws and incorporate new or similar nuances, which will have a significant impact on the requirements of financial institutions and RCASPs in these jurisdictions. Therefore, entities that currently fall under the RCASP or FI definitions under CARF are best advised to start preparing for the necessary control, process, and system improvements.