The value of most cryptocurrencies have plummeted in recent weeks, wiping out billions of dollars of wealth.
And instead of mostly harming cryptocurrency enthusiasts, like previous crashes have, the impact was felt widely.
Cryptocurrencies have seen their popularity skyrocket during the pandemic, pulling in countless celebrity endorsements and being integrated into more asset portfolios.
Cryptocurrency and blockchain based tech like nonfungible tokens (NFTs) are now showing up everywhere from late-night talk shows to Matt Damon commercials. Athletes like Odell Beckham Jr. and mayors like New York’s Eric Adams (D) have even chosen to have their salary converted into cryptocurrency.
While banks and brokers once scorned cryptocurrencies, a growing number of them now offer purchasing and custody services. The boom has also helped propel several start-ups, including Robinhood, to new prominence and has even pushed some blockchain-centric firms to seek national banking licenses.
That has made the price drops of the last week, where both bitcoin and ethereum plunged over 40 percent from their highs, all the more damaging.
With tax filing season underway, many investors in the red are bracing for massive tax bills on winnings they may no longer have.
“One of the main misconceptions of crypto is that people think that it’s anonymous, so, therefore, regulators have no way of knowing what you’re doing in the crypto space. But that’s not reality,” said Shehan Chandrasekera, a certified public accountant and head of tax strategy at CoinTracker.io, a cryptocurrency tax compliance software company.
Cryptocurrencies are treated under the same tax rules applied to stocks, bonds and other investment products. Investors who bought cryptocurrencies with dollars last year will not need to pay taxes on those purchases until they sell or trade those coins. Chandrasekera said investors who bought cryptocurrencies at a higher price than they are currently worth can even sell those coins now and apply the loss as a rebate on their 2022 taxes.
But taxpayers who sold, mined, or exchanged cryptocurrencies in 2021 may need to pay either capital gains taxes or income taxes for those transactions. Taxpayers who quickly spent their crypto profits, reinvested them, or lost much of their net wealth during the recent crash may have trouble affording those bills depending when those transactions took place and state tax rates.
Crunching the total tax burden of cryptocurrency transactions can also be daunting and at times impossible for unfamiliar investors, Chandrasekera said. Most cryptocurrency exchanges do not provide users annual tax filing information for their transactions as stock brokers or other trading platforms do, he said. The frequency of peer-to-peer cryptocurrency transactions and trades of one coin for another are also unique tax issues for the cryptocurrency sector.
“It’s virtually impossible to reconcile these transactions, especially if you have multiple wallets,” he said, referring to virtual storage systems used to hold cryptocurrencies.
The widespread adoption of cryptocurrency raises questions about its safety as an asset moving forward, both because of its volatility and vulnerability to fraud.
The major cryptocurrencies have endured several precipitous price swings before this week’s collapse.
Bitcoin lost over half of its value and Ether, the second most traded token, dropped more than 25 percent in the first month of 2018.
While both collapses had some external causes — potential regulation in the U.S. and foreign crackdowns on trading — some of the volatility comes down to the nature of the assets.
Unlike traditional currencies like the dollar or euro, cryptocurrencies are not broadly accepted in exchange for goods or services.
University of New Haven finance professor David Sacco describes them as a “speculative store of wealth” rather than a true currency.
“Crypto is more like digital gold basically,” he told The Hill in a phone interview.
Until there is more widespread adoption of cryptocurrency applications, be that purchasing NFTs or using blockchain technology for contracts, investors acknowledge price swings are likely to remain a feature of cryptocurrency.
“Volatility is going to be there until there’s a full adoption with concrete use cases,” said Eloisa Marchesoni, founder of the crypto consultancy firm Def.Ai Inc. “And we’re not seeing that yet at all.”
Cryptocurrency proponents are quick to point out that overall growth trends have been generally positive, although for the waves of investors that have bought during the most recent climb that fact is unlikely to provide much solace.
Smaller coins can be even more volatile. Many of the thousands of tokens that have been launched since bitcoin have spiked seemingly out of nowhere just to bottom out a few days later.
The sources of fluctuation for these kind of coins can even less tied to economic realities than the major ones. A single tweet from a prominent figure in the crypto community can drive value up dramatically.
Last October, the Dogecoin spinoff shiba inu coin jumped 30 percent after Tesla CEO Elon Musk tweeted a picture of his dog with the caption “Floki Frunkpuppy.” A few weeks later he sent the price down 20 percent by revealing he did not own any SHIB.
Several other so-called shitcoins have had similar jumps without links to material changes. When Rep. Brad Sherman (D-Calif.) jokingly mentioned hamstercoin during a December hearing, the token’s value doubled then cratered within a day after investors dumped their assets.
Cryptocurrency has also proven to be a fruitful arena for scammers and hackers.
Scammers took a record $14 billion cryptocurrency in 2021 according to a January report by the blockchain analytics firm Chainalysis, which pinned much of the increase on the growing popularity of decentralized finance platforms.
Cryptocurrency scams have flourished on social media. The Federal Trade Commission noted in a release on the record number of online scams reported last year that “social media is a tool for scammers in investment scams, particularly those involving bogus cryptocurrency investments — an area that has seen a massive surge in reports.”
The space has also shown itself vulnerable to hacks. There were more than 20 hacks last year where more than $10 million in virtual assets were taken, according to NBC News.
Just last week more than $30 million worth of assets were stolen from digital wallets on the exchange market Crypto.com, which recently acquired the naming rights to the Los Angeles Lakers’ arena.
The company has said it adopted new security measures in the wake of the hack but has not publicly shared what those look like.
Cryptocurrency advocates say potential buyers should follow basic investing rules before jumping in: do diligent research, diversify your holdings and focus on time in the market instead of quick returns.
J.W. Verret, a financial law professor at George Mason University and former House Financial Services Committee senior counsel, argued price swings alone are no reason to clamp down on the industry.
“It’s probably easier to support a sector during a bull market. But that doesn’t mean a bear market requires a regulatory solution,” Verret said.
“If somebody’s buying a token just because of a celebrity endorsement alone, that is a dumb decision but you can’t regulate away dumb decisions.”
Even so, Verret said policymakers and regulators should provide more educational resources for potential investors, establish clear expectations and adjust tax laws to ease the use of cryptocurrencies for transactions.
“The increasing retail interest, increasing young demographic interest and increasing interest across the political spectrum has been exponential and that is going to have political implications,” he said.
“We’re already seeing moderate Democrats interested in crypto. I think that’s going to grow, and I think the aggressively anti-crypto voices are going to be drowned out.”