Regulating fintech innovation in Budget 2024

The rise of blockchain technology has decentralized traditional financial processes, opening the door to potential offshore tax evasion. To address this, Budget 2024 proposes to adopt the Organisation for Economic Cooperation and Development (OECD)’s Crypto-Asset Reporting Framework (CARF). Starting in 2026, companies that facilitate crypto-asset transactions will be subject to new, annual reporting requirements. In other words, companies that either accept, deal, or undertake transactions involving crypto-assets will be required to report such information to the Canada Revenue Agency (CRA). This includes disclosing personal information of customers who are natural persons, including a natural person who controls an entity that is itself a customer. Also proposed by the Budget is an amendment to the Common Reporting Standards (CRS), to avoid duplicity with CARF.

Released on April 16, 2024, Canada’s Budget 2024 introduced some impactful changes to fintech. Companies that either accept, deal, or undertake transactions involving crypto-assets will need to be aware of Canada’s adoption of new global reporting requirements affecting the disclosure of crypto-assets.

Background

The government’s attitude in the budget towards technology appears to be supportive yet cautious. The budget documents highlight a clear desire for companies to innovate and invest capital into technology, but at the same time expresses hesitation due to the increased risk of fraudulent or abusive practices.

The OECD has put forth various international guidelines to assist with addressing tax and regulatory shortcomings of many countries due to rapidly advancing technology. Canada has already agreed to participate in many of these OECD frameworks either bilaterally with other countries or multilaterally through mutual international agreements.

New crypto-asset reporting requirements

As the use of digital currencies becomes more prevalent, the potential for offshore tax evasion increases. While traditional financial industries are subject to numerous regulations, the crypto-asset industry has operated in a relatively unsettled regulatory environment since inception. As a result, governments and international organizations have formulated and worked on adopting more regulations, including the OECD’s Crypto-Asset Reporting Framework (CARF) implemented in 2022.

Budget 2024 proposed to implement the OECD’s CARF into Canada’s Income Tax Act starting in 2026. In doing so, Canada will join a global regulatory framework requiring reporting of financial accounts related to crypto-assets. The CARF will align with existing CRS rules in that CARF will require reporting for financial accounts. CARF, however, has a different scope because it covers transactions by both residents and non-residents, as well as being applicable specifically to crypto-assets.

Overview of the CARF

The CARF is a comprehensive information reporting regime mandating crypto exchanges and providers of crypto-related services to disclose transactional details to the CRA. The CARF regime imposes an annual reporting requirement on Canadian-resident entities and individuals – as well as non-resident entities or individuals that carry on business in Canada – that provide business services effectuating exchange transactions in crypto-assets. The scope of service providers can therefore broadly include crypto exchanges, crypto asset brokers/dealers, and operators of crypto-asset automated teller machines.

Service providers must report, in respect of each customer and crypto-asset, the annual value of:

• Exchanges between the crypto-asset and fiat currencies;
• Exchanges of crypto-assets for other crypto-assets; and,
• Transfers of crypto-assets, including transfers from a customer to a merchant in exchange for goods or services, in excess of USD $50,000, where the crypto-asset service provider processes payments on behalf of the merchant.

Service providers must provide detailed personal information of each natural customer, including their name, address, date of birth, jurisdiction(s) of residence, and taxpayer identification number. For corporations, similar information is required of the natural person who exercises control over the entity. Such reporting is required for both residents and non-residents.

While the Canadian domestic definitions may change once legislation is released, CARF defines the reportable assets as “Relevant Crypto-Assets”, which includes cryptocurrencies but also is intended to extend to stablecoins, non-fungible tokens (NFTs) and any “similar technology”. Crypto-assets that cannot be used for payments or investment purposes are excluded from reporting requirements, as they pose minimal tax compliance risk.

Overview of Common Reporting Standards

In addition to CARF, a related OECD measure encouraging information disclosure is imposed by the CRS. The CRS, already adopted in Canada, mandates an automatic exchange of financial information for tax purposes. Similar to Foreign Account Tax Compliance Act (FATCA) reporting for US residents, the CRS framework requires financial institutions to report information about financial accounts held by non-residents, or entities controlled by non-resident individuals. The CRA receives this information and is expected to further share it with other jurisdictions. As the CRS does not apply to crypto-assets, the CARF was necessary.

Budget 2024 aimed to limit duplicative reporting between the CARF and CRS by proposing to broaden the scope of the CRS. The CRS will include specified electronic money products and central bank digital currencies which are specifically excluded from the CARF for the 2026 and subsequent calendar years. Additionally, Budget 2024 proposed to remove labour-sponsored venture capital corporations (LSVCCs) from the list of non-reporting financial institutions. Any non-registered accounts held in an LSVCC would instead be an excluded account, provided that annual contributions to the account do not exceed USD $50,000.

Blockchain subject to increasing scrutiny and regulation

The advent of blockchain technology revolutionized the financial industry by decentralizing traditional financial processes, increasing efficiency, reducing costs, and enhancing security. The use of crypto-assets to streamline payments, including cross-border transactions, provides speedy identity verification for financial customers, serves as a permanent record of transactions, and decreases the time taken to settle transactions. However, their decentralized nature means crypto-assets leave financial intermediaries and central administrators out of the loop.

Canada’s proposal to implement CARF into law represents a significant step towards mitigating tax and other risks associated with crypto-assets. Adopting this regulatory framework will foster financial transparency, ensuring a level playing field for all stakeholders in the digital economy. Notably, however, crypto-asset service providers needing to obtain personal information on its customers may pose a significant administrative hurdle. Crypto-asset users may be dissuaded by the information disclosure requirements and favour anonymity, ultimately seeking other ways to transact.