Goodwin Insights June 04, 2018

A Look at Blockchain's Bigger Picture

As a partner in Goodwin’s Tax practice, San Francisco-based Kelsey Lemaster advises blockchain and other emerging technology companies on tax considerations for formation and incorporation, financing transactions, M&A, and matters related to cryptocurrencies. He also advises start-ups seeking to create blockchain-based tokens, as well as companies with more developed platforms considering offering cryptocurrencies and blockchain-based tokens for customers. In this Q&A he covers:

How are companies using blockchain technology?

There are a number of different ways a company might want to utilize this technology. Blockchain in and of itself can be used within an existing company without doing any kind of token offering. It involves maintaining information on an encrypted database; banks and other companies that may never issue tokens are using the technology. It is here to stay whether or not you think Bitcoin or other cryptocurrencies will survive.

And then there are companies that want to issue tokens out into the world, and there are various forms that can take. For example, blockchain-based tokens may represent goods or services that a company may provide to the holder of the token, they may represent an interest in an asset like U.S. dollars or gold, and they may represent a new form of digital currency, like Bitcoin.  We have clients that are trying to build all of those different types of tokens.

We also work with fund sponsors and investors who are creating investment vehicles to go in and invest in these types of companies and into block-chain based assets.

What role do you see blockchain technology as playing in the corporate world, and in the lives of ordinary citizens?

I think anything where privacy and data is important it could be huge. People are talking about putting individuals’ online identity and healthcare data into encrypted tokens. If all of your personal information could be locked into a token, where each individual could control their own data, rather than companies like Facebook and Google, that could be very powerful. People who believe in this feel it could be a totally different world in a few years.

Does this have the potential to disrupt existing financial industries or how government regulates some industries?

I think the potential is certainly there and banks are taking steps to make sure they aren’t going to be left behind. You also see apps out there like Venmo, Square, Zelle and ApplePay where similar kinds of encryption technology are likely being used to support and expand traditional payment processes. But as far as whether Bitcoin will replace traditional banking, personally I kind of doubt it.

What have you learned about tax implications related to blockchain technology?

For companies, it’s a really interesting area because a lot of companies view this technology as a way to raise capital. Traditionally, a company raises capital either through equity or debt financing, which we do a lot of, and the money raised is tax-free to the company. If a company raises capital by selling tokens that represent goods or services produced (or that will be produced in the future) by the company, the amount raised most likely must be treated as taxable income of the company. There are structures and planning approaches for mitigating (to some extent) the related tax costs to the company, but they are often complex and may not be feasible or appropriate for a particular company based on that company’s situation.  Accounting firms usually need to get involved to help model out the tax consequences of a token issuance and determine the best overall structure for the company.

What about the volatility of some cryptocurrencies? What is the market’s appetite?

I think there will be sustained growth on the underlying blockchain technology because it seems like a very useful technology. Whether you will continue to see frothy ICOs and token offerings as we did over the last year, I think remains to be seen. Further securities law scrutiny and regulation in the U.S. or other crypto-markets, or a dramatic decline or failure to find stabilization in the price of Bitcoin or Ether could chill the environment for token offerings and cryptocurrencies.

What are your thoughts about the future of blockchain?

I’m pretty optimistic about the technology. I’m not necessarily optimistic about Bitcoin or other individual cryptocurrencies. But the technology seems to be pretty empowering and you very rarely see people being skeptical about the technology. 

What is it about Goodwin that makes it uniquely positioned to advise companies in this area?

I think our tech-heavy practice is a big part of it. We already do a lot of work with innovative startup companies, and we have an entire business unit focused on helping start-up companies build their business. And we’ve got a deep bench of people who work across many of the different areas that are often relevant to blockchain related companies, including: securities, tax, monetary regulation, FinCEN, commodity regulation, CFTC and so forth. And we have a great Fin-Tech practice that leads the charge on a lot of this work.

“If you’re a true believer you might think it’s the next internet, so it’s a pretty exciting space to be in,” Lemaster said.