The writer is founder & CEO of Digital Self Labs and visiting scholar on financial technology at Georgetown University Law School
In 1758, an English mail coach carrying banknotes was robbed. The robber used one of the stolen banknotes to pay for a room at an inn. The original owner of the banknote asked the Bank of England to stop payment of the note, whereupon the innkeeper sued. The case of Miller v Race rose to England’s highest court judge, who ruled that the innkeeper was the rightful owner of the banknote.
The judge, Lord Mansfield, opined that if a merchant always had to question whether there might be an upstream property interest in a banknote then the notes could not be used to grease the wheels of commerce. Therefore a banknote made out to bearer and payable on demand must be treated as currency — a medium of exchange.
Fast forward to today and a popular form of cryptocurrency called stablecoins is facing challenges similar to those faced by banknotes in 18th-century England.
Stablecoins are designed to maintain the value of a sovereign currency, such as the US dollar, and are backed by currency reference assets. They have been shown to possess the major characteristics of currency: they are a unit of account, a store of value and a medium of exchange. The total value of stablecoins in circulation has reached $240bn.
Yet potential property claims of prior owners could hinder the use of stablecoins as digital money.
Legislation is much needed. The US Congress is considering two bills that will regulate stablecoins: the Senate’s Genius Act and the House’s Stable Act. However, neither clearly define the use of stablecoins as money under private commercial law, tax law, and accounting rules.
The case of the stolen 18th-century English banknote serves as the foundation for much of US payments law. Lord Mansfield’s ruling is enshrined in the “take-free” rule in the Uniform Commercial Code — laws governing commercial transactions. In 2022, Article 12 was added to address digital assets. If stablecoins are considered “controllable electronic records”, Article 12’s “take-free” rule applies — meaning the interests of an upstream creditor are cut off.
However, only 27 US states so far have adopted Article 12. For the rest, stablecoins could be treated as “general intangibles”, meaning prior property claims could remain attached, rendering them a poor medium of exchange.
How stablecoins are treated under tax rules is also important. If stablecoins continue to be categorised as “property” like digital assets such as bitcoin and ethereum, then gains and losses must be reported to the Internal Revenue Service. As stablecoin payments become more widely used, this could result in millions of reports about personal and business payments being submitted to the government.
Furthermore, if you use stablecoins to purchase something, it could be considered a “disposal event” subject to capital gains tax, which could lead to burdensome and confusing tax treatment for consumers and businesses.
One way to address the reporting issue is to ensure stablecoins are always purchased or sold at exactly the value of a currency — meaning there are no gains or losses. To do so, stablecoin legislation must require issuers to follow stringent reserve requirements that will ensure their value and segregation requirements that will protect against creditors in the case of issuer bankruptcy.
Another way is for Congress to reduce tax reporting requirements. There is precedence — personal gains of less than $200 from foreign currency transactions are exempt. However, for stablecoins to be an effective means of payment, businesses would also need to benefit from any reporting exemption adopted and the reporting threshold would need to be raised significantly.
As stablecoins become increasingly common in traditional commerce, accounting rules will matter too. It remains unclear whether stablecoins should be reported as cash equivalents or as financial instruments under accounting rules. How they are classified will have a significant impact on how companies report their stablecoin holdings and usage.
Ultimately, if stablecoins are not clearly defined as a form of money — whether as a cash equivalent or negotiable instrument — it could render them impractical as a medium of exchange and would defeat the purpose of potentially significant legislation.
Federal Reserve chair Jay Powell stated in his June 2023 testimony to the House financial services committee that “we do see payment stablecoins as a form of money”.
Digital money should be recognised more broadly as a huge leap in the evolution of currency.