Crypto-asset service proviers (CASPs) have received large investments to support their growth, and consequently the value of that business has been subject to a significant increase over the last years, drawing the attention of public, governmental institutions and regulators. As a result, a new regulatory framework at European Union (EU) level, expected to change the rules of the game for CASPs, is facing latest steps of its implementation process.
Known as MiCA (or MiCAR), the new regulatory framework for crypto-assets will have major implications for the industry, as well as on taxation and transfer pricing (TP). While tax administrations are at an early stage of implementing the new set of rules, CASPs already need to proactively consider the new transfer pricing implications and the documentation requirements for intragroup transactions. The next 18 months will be crucial in ensuring that their value chain is aligned with legal requirements, with a view to obtain the mandatory licenses to operate in the EU.
Several characteristics of CASPs, such as their decentralized nature, the fast-growing pace of the business and the rapidly evolving regulation framework, are likely to pose new challenges in tax administrations’ efforts to ensure adherence with the new standards set by upcoming regulations, both from a broader business perspective and a more granular tax and compliance point of view.
A new harmonized approach at the European level for crypto-asset service providers
Considered as a game changer in the development of the crypto industry, the MiCA regulatory framework grew from a gap in European regulation where most crypto-assets were found to be out of scope of the EU’s financial services legislation. In this context, policymakers at the European level have considered the benefit of creating a more uniform regulatory structure across Member States.
In October 2022, an important landmark in the CASPs’ regulation framework occurred. The European Council and the European Parliament Committee on Economic and Monetary Affairs endorsed the approved text for MiCAR. The new framework focuses on the protection of consumers and investors, ensuring market integrity and providing financial stability. It includes new measures such as minimum capital requirements for issuers of crypto-assets, as defined in Article 31 of MiCAR, promotion and advertising of crypto activities and broader compliance requirements.
It is expected that more comprehensive rules for the EU will allow CASPs to further growth and expand in a more secure and stable environment.
In addition, CASPs identified as reportable entities under the new set of local rules deriving from “Crypto Asset Reporting Framework (CARF) or amendments to the Common Reporting Standard (CRS)” released by the Organisation for Economic Cooperation and Development (OECD) will be in charge of building robust customer due diligence procedures based on anti-money laundering (AML) and know your customer (KYC) obligations.
New value chain challenges: from a regulatory and business perspective to transfer pricing
Given the scale of the new regulatory framework and the growing pace of the crypto-assets business, it is expected that tax administrations would increase their focus on the CASPs’ operations and consequently also consider implications of their structure from a tax and TP standpoint.
CASPs that may be affected by the new regulation framework should therefore perform a preliminary assessment of their current structure to determine the expected impact on their operations. In particular, CASPs operating as a group of companies on a domestic and international basis (Group) would need to revisit their operations in light of potential value chain implications.
In view of complying with MiCAR, CASPs may need to restructure their business operations and as such new TP challenges might arise, in particular with reference to the identification of value drivers within a group, characterization of the entities in the value chain, intangible assets and the pricing of the intragroup transactions.
Compliance – a combined challenge from a regulatory and TP perspective for multinationals
Upon implementation of MiCAR and local law following the guidance provided by OECD CARF, CASPs must comply with new compliance requirements to obtain the authorization to operate in a specific market. Due to the new reporting requirements, CASPs would need to perform specific AML/KYC procedures, and also support the launch of ad-hoc marketing communications and prepare mandatory information packages detailing the characteristics of the crypto-assets released.
Driven by expected additional reporting requirements, robust compliance functions should be implemented by multinational groups. Ideally, according to best practices observed on the market, such compliance functions would be centralized to enhance supply chain coordination. In an intercompany context, considering that activities performed at a central level would bring a benefit to other subsidiaries of the group, such functions should be properly compensated. In particular, considering the increasing importance of compliance activities for CASPs and their valuable contribution to “economically significant activities” of the Group, an ad-hoc analysis should be performed to determine their arm’s length character.
What is also to be determined is whether compliance activities should be classified into a low-value added category, or if these activities should be considered as high-value added contributions to running the business operation of CASPs.
Transfer pricing challenges of the technology embedded in the digital platform
In the context of a potential reorganization of certain elements of the Group, the critical importance of the intangible assets used by CASPs, such as the digital platform, should be considered. From a TP standpoint, challenges might arise in relation to identifying the functions performed and risks assumed by each entity within the Group and their contribution to the business.
In this context, the key value drivers interlinked to the platform and the technology behind it should be considered, such as scalability, sustainability, interoperability, information security, technical efficiency, reputation and transparency.
Due to the complexity of the technology used by CASPs, the importance of development, enhancement, maintenance, protection and exploitation (DEMPE) activities related to the digital platform should be identified in order to define their contribution to the value creation of group operations.
Furthermore, the intellectual property behind the CASPs could be subject to a valuation in the context of a business restructuring, leading to challenges regarding the factors considered as part of the estimation process.
A closer look at the intragroup transactions carried out by CASPs
Aside from the value chain implications derived from the new regulatory framework, additional TP requirements should also be considered in the context of the ordinary business operations conducted by CASPs. Among the most common intercompany transactions observed between CASPs belonging to a Group there are a) royalty for licensing of intellectual property, b) provision of corporate management services (customer service, trading, finance, human resources), c) provision of AML/KYC and compliance management services and d) financing activities (i.e., loans, cash pooling, guarantees). The arm’s length of these intercompany transactions should be analyzed and properly supported in TP documentation.
It is worthy to mention that, in addition to the most common intercompany transactions listed above, multinational enterprises could be further involved in other complex operations, such as cross-border transfer of entire or parts of the business driven by regulatory and business reasons. Such business restructuring operations should be watched out, as potentially triggering TP considerations as per the local TP regulation of the jurisdictions involved and the OECD framework.
In conclusion, the upcoming regulatory framework is a welcome step for the crypto-asset ecosystem. For CASPs, it is important to consider the combined regulatory, tax and TP requirements to be taken into account. To minimize risk and maximize opportunity in this new regulatory environment, CASPs should already start identifying the right partners to successfully adapt their operating structure and comply with MiCAR and the related transparency rules that will be required by 2024.
