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Say Hello to SmartDrops: The New Way to Give Away Crypto Money

Are airdrops useful?

While the jury’s still out about the mechanism, used of late to massively distribute crypto tokens to those who already own cryptocurrencies, several industry observers and startups already believe it could be done better.

The concept of “smartdrops” seems to have garnered some attention after a July Medium post by Yeoman’s Capital founder and long-time industry investor David Johnston. In it, Johnston encouraged blockchain startups to eschew what has become a standard approach to airdrops – dumping tokens to everybody with an ethereum address – for a more targeted approach.

In practice, Johnston told CoinDesk this means, “intelligently targeting the recipients of an airdrop and giving away a meaningful amount of value,” with the objective of attracting real users to participate in “the early bootstrapping of a system.”

And this newly minted alternative seems to be gaining steam.

For instance, there’s already some precedence to this approach. In fact, Johnston says in his Medium post that he merely recorded best practices and gave “substance to this idea that a lot of people have,” specifically pointing to projects Dfinity and Polymath as examples of projects that have conducted smartdrops.

Sure enough, in June, Dfinity announced plans to airdrop $35 million worth of its tokens to community members that undergo (and pass) a know-your-customer (KYC) and anti-money laundering (AML) verification process.

Likewise, new companies have emerged to facilitate these improved airdrops. Crypto token management company TRM Labs, for example, recently launched a platform (dubbed SmartDrops of course) that allows projects to distribute tokens to select users and offers issuers analytics.

Just like Johnston, it appears many crypto stakeholders have high hopes for the new and improved airdrop and think the method could resolve issues associated with other token distribution methods, namely initial coin offerings (ICOs) that have been under regulatory scrutiny and seen industry criticism since its explosion in use.

These projects often have a hard time attracting the “bootstrappers” Johnston refers to, and their tokens frequently become objects of speculation more so than objects of utility.

“Most airdrops are really about giving a token to speculative investors so that they’ll go cash it out on an exchange. It’s really about trying to demonstrate to exchanges, ‘hey we’ve got a lot of wallets, we’re going to bring you a lot of people, and so let us list our token on your exchange,'” Paul Hainsworth, the CEO of Open Garden, which will use the smartdrop model for the distribution of its OG tokens soon, told CoinDesk.

Summing up many observer’s thoughts about the counterintuitive nature of such decisions, Hainsworth continued:

“We don’t think that’s a useful way to actually build your real network.”

Prioritizing community

Adopting smartdrops as the primary means of token distribution would not necessarily render ICOs obsolete.

“I could still see a place for token sales, but it feels like they should be a lot later, after you’ve built a community, after you have a real software project,” Johnston said.

That’s because ultimately, Johnston continued, software projects are about building communities of users.

“It’s critical to have a community and real software first because people become the victims of their own success,” he said, adding:

“If they have a bunch of money, then they lose the discipline of having to deliver. Raising money wasn’t the point; raising money was just a way of delivering the software.”

Open Garden’s Hainsworth is acutely aware of this.

As a result, Open Garden, a decentralized Wifi project backed by Future/Perfect Ventures, is taking “an inverted approach.”

“We’re launching the product, doing an airdrop to give people tokens so they can start using it in the network, demonstrating utility, and then once we have sufficient utility in the network, then we’ll distribute our tokens to investors,” Hainsworth told CoinDesk.

The airdrop will also coincide with the official launch of the project’s live protocol, or mainnet, which according to Hainsworth is “built and ready to go.”

Open Garden will distribute 1 billion OG tokens in an effort to encourage people to put its peer-to-peer internet sharing and retailing platform to use. Using mesh networking, the protocol, which is built on the stellar blockchain, enables individuals to sell and pay for internet connectivity with its native token, all within a smartphone app (currently only for Android).

Open Garden currently runs a messenger app called FireChat, which has 5 million users, and that is the initial market it will airdrop its tokens to.

But above and beyond just that, the team built a sort of insurance into the smartdrop to make certain that OG will be used to transact in the network and not for speculation.

Community members receiving the token will not be able to immediately cash out. Instead, they must first use the token for “its intended purpose” – things like turning their phones into hotspots, carrying out transactions and keeping the app installed for more than a month.

Pricing the drop

Yet, it’s not enough just to give tokens to the “right” users.

One significant decision projects must make is the percentage of tokens to distribute and the price of those tokens. As previously reported by CoinDesk, fudging the numbers can jeopardize investors’ trust and can even leave a project unable to meet token demand with supply.

According to Johnston, projects should focus on the percentage of tokens they plan to distribute, and to him, it should be with a “go big or go home” mentality.

“People today are airdropping 1 percent of their tokens, and it’s not really meaningful,” he said. “I think you have to do something more serious. Think about 25 percent of the tokens or 50 percent of the tokens or 60 percent of the tokens that’ll go out to the community, so that the founders are a minority … but they’re not dominating the community.”

After all, he added:

“If the community’s bringing the majority of the value, then they should get a majority of the reward.”

For its smartdrop, Open Garden plans to give away just under 5 percent of its total tokens (what Hainsworth said would be hundreds of dollars per participant) in a two-phase distribution. And while that’s not in the double digits, like Johnston suggested, for a mature project with a substantial user base already, he told CoinDesk, that seemed like an appropriate amount.

Hainsworth told CoinDesk, the percentage of tokens the project decided to distribute was intended to enable circulation and liquidity within the network, because sharing internet connectivity requires the ability to carry out many micro-transactions (providers can even charge on the megabyte).

Determining the price of tokens is a more inexact science.

Open Garden has decided to launch its token at $0.01, which Hainsworth explained was related to the pricing from the last round of the private presale of its native tokens.

In the future, Johnston predicts that there will be other ways to determine token price, specifically involving the recently launched decentralized prediction market, Augur.

But until then, it’s up to the project’s itself to determine what mechanics will be just right.

“Our objective is to build real utility and become the first and largest consumer use of blockchain technology by the end of the year,” Hainsworth said, optimistically, adding: “Honestly, this is how real companies operate.”

Hanging orbs image via Unsplash

The leader in blockchain news, CoinDesk is a media outlet that strives for the highest journalistic standards and abides by a strict set of editorial policies. CoinDesk is an independent operating subsidiary of Digital Currency Group, which invests in cryptocurrencies and blockchain startups.

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$42 Million In Crypto Is Now Being Airdropped to NEO Investors

Select Neo users are now receiving free crypto money.

Beginning this weekend, those who held tokens on the Neo blockchain, the 11th largest in the world, began to receive 10 million ONT tokens (worth $42,100,000 at press time) designed to power an entirely new crypto technology platform called Ontology. Recipients must have held Neo on March 1.

Part of the “ONT token distribution,” the move effectively rewards all users of the Neo blockchain for providing the technology necessary for the project’s fundraising.

If that sounds confusing, the move has been in the works for some time.

In February, the Neo Council, a body set up to oversee the Neo blockchain protocol, announced that it would freely distribute 20 million ONT tokens – the main assets on the Ontology blockchain network – to eligible NEO token holders through a two-stage “airdrop.” Ontology’s creators granted 100 million ONT, or 10 percent of the maximum supply, to the Neo Council “for relevant cooperation and to support NEO community feedback,” the Ontology team wrote in March.

As well as the deadline for completing the Neo Council airdrop, Monday marks the beginning of Ontology’s token migration, in which holders of Neo-based ONT must move their tokens over to Ontology’s “mainnet” – its own, freestanding blockchain.

Ontology is one of several projects to embark on token migrations – also known as token swaps – in recent months. Some of the most prominent include EOS and Tron, both of which moved from ERC-20 tokens to native tokens on their own dedicated blockchains. (Ontology, as noted above, is moving from an NEP-5 token to its own blockchain.)

For users of certain exchanges, this process will be automatic, but others will need to manually complete the transfer. The Ontology team has posted an explainer, but the process will be more complicated for some users than others. Ledger wallet users will need to transfer their NEP-5 tokens to another wallet, for example.

Adding a layer of complexity, ONT tokens on Ontology’s mainnet are indivisible. In other words, users cannot migrate 1.2 NEP-5 tokens to mainnet – they have to top up to 2 ONT, sell down to 1 ONT, or accept that 0.2 ONT will simply disappear.

Fortunately, ONT investors have until October 1 to complete the migration.

More details

Stepping back, Ontology, which launched at the end of June, and Neo are public blockchain protocols with teams primarily based out of China. Both emerged from Onchain, a Shanghai-based technology firm.

While separate entities, Neo and Ontology are closely aligned and engage in “technical cooperation,” according to Ontology founder Li Jun.

The Neo Council’s ONT token distribution was divided into two equal halves. Anyone who held NEO at a certain point on March 1 is entitled to receive 0.2 ONT per NEO. The first half (0.1 ONT per NEO) was distributed to Neo addresses as an NEP-5 token – a Neo-based token standard similar to ethereum’s ERC-20.

The second half of the airdrop began over the weekend, except that this time, ONT tokens were distributed as native tokens on the newly launched Ontology blockchain, rather than as NEP-5 tokens. As the Ontology team explained in an announcement, recipients’ Ontology addresses, WIFs (wallet import formats), and private keys will be identical to their counterparts on Neo.

Social media posts indicate that at least some users have successfully received their ONT at the time of writing. The Ontology team’s announcement gave Monday, July 9 as a deadline for completing the airdrop.

The Ontology community has another airdrop of ONT to look forward to, according to Jun, but details have yet to be revealed.

The Ontology team previously gave away 1000 ONT to people who signed up for its newsletter and completed a know-your-customer (KYC) check; it also gave 500 ONT to attendees of a Neo developers’ conference who gave their email.

Madeline Meng Shi contributed reporting.

Skydiver image via Shutterstock.

The leader in blockchain news, CoinDesk is a media outlet that strives for the highest journalistic standards and abides by a strict set of editorial policies. CoinDesk is an independent operating subsidiary of Digital Currency Group, which invests in cryptocurrencies and blockchain startups.

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Registration for Dfinity's 'Biggest Airdrop Ever' Is Closing Soon

The registration period for what one startup claims to be the largest airdrop ever will come to a close on Friday.

“Decentralized cloud” company Dfinity announced its token distribution plans last week, and revealed in a statement that it will give away 35 million Swiss francs (about $35 million) worth of its DFN tokens to “hundreds of thousands” of community members. The company, which purports to be a “blockchain computer with unlimited capacity,” will launch its network later this year with the aim of staking a claim in the already competitive market of aspiring blockchain cloud computing services.

Backed by major tech investor Andreessen Horowitz and crypto hedge fund Polychain Capital, Dfinity is also in the process of conducting a private sale of its forthcoming cryptocurrency, the conclusion of which the company says will push its total funding to nearly $200 million.

Likewise, unlike other companies in the space, Dfinity has eschewed token distribution via an ICO in favor of what might be called a “compliant airdrop.”

In practice, this means Dfinity community members must undergo and pass a know-your-customer (KYC) and anti-money laundering (AML) verification process facilitated by AngelList spinoff CoinList before they can benefit from the massive token giveaway. June 8 is the deadline for completing the process.

CoinList previously told CoinDesk that it developed its compliance tool (also dubbed Airdrops) to provide a means for token issuers to conduct airdrops without violating securities laws. Despite this, Dfinity is still excluding U.S. citizens and residents from participating, and cited “regulatory uncertainty” as its rationale in a Medium announcement.

Dfinity community members who are able to participate each stand to gain between around $500 to $2,500 worth of tokens, and those who have followed the projects’ various community channels longest will receive their tokens first.

Unlike other nascent blockchain projects, Dfinity has not carried out fundraising on the ethereum blockchain, meaning it has not sold ERC-20 tokens as “placeholders” until it launches its technology in full. As such, KYC/AML verified community members must wait for the network activation to receive their tokens.

Dfinity expects to launch its blockchain in quarter four.

Falling coins image via Shutterstock

The leader in blockchain news, CoinDesk is a media outlet that strives for the highest journalistic standards and abides by a strict set of editorial policies. CoinDesk is an independent operating subsidiary of Digital Currency Group, which invests in cryptocurrencies and blockchain startups.

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Crypto Candy? Expect Free Giveaways Ahead of EOS Blockchain Launch

It turns out, owning EOS could be a 17-for-one offer for anyone who’s in before the launch.

That’s because, once live, it won’t just be the cryptocurrency that powers the EOS software that’s available to the market (see our full guide to the launch). In fact, most EOS holders will find they also own a bunch of other new tokens with real-world value since loads of startups are planning to jumpstart their efforts by gifting tokens to EOS users, the lion’s share coming in the first blocks.

Stepping back, airdrops are a broader trend in crypto and not by any means something unique to EOS. A form of giveaway, they have taken on a special significance as a way to jumpstart a community around a project at very little cost and without asking anyone to spend money.

The OMG token issued by OmiseGo pioneered this approach in late 2017, when everyone with an ethereum wallet received a helping of its new token. Airdrops didn’t stop thereafter, though they became more focused, with giveaways for people who sign up based on specific criteria becoming the norm. For example, companies might pay to do airdrops to elite crypto communities like 21.co or CoinList or they might simply ask their community to complete certain verifiable tasks to earn allocations.

But with EOS, that trend only appears to be accelerating.

The new EOS protocol will go live in early June (there is no precise time), and when it does, a transition will occur, with those who own EOS tokens issued on ethereum (effectively a dummy token used for fundraising) having their coins locked up in smart contracts until they can be exchanged.

Shortly after this happens, there will be many airdrops, and generally speaking these first few airdrops will be distributing widely to users. Many of them are dropping into every single wallet that has a certain number of EOS tokens in it.

Chaince, an exchange devoted to the EOS community with a plan to do an airdrop, and it says the flurry of activity around the launch was simply too good a marketing opportunity to pass up.

A spokesperson told CoinDesk:

“EOS is very popular recently. New projects surely would like to choose a topical chain.”

As for the other companies involved, their missions vary widely. Some are attacking evergreen problems chased by startup founders, such as job search or payroll. There’s a few taking on one of crypto’s perennial favorite industries: gambling. Several, however, seem designed to build out the functionality of EOS.

Here’s a selection of those more infrastructural efforts that happen to yield piles of new tokens:

Scatter

Users of ethereum may be familiar with Metamask, a browser extension that makes it easier to interact with the project’s blockchain in the Chrome browser. Scatter aims to to do the same for EOS.

The goal of scatter is to give users a way to interact with products built on EOS without the need to reveal more information than they want (and without exposing their private key). By logging into Scatter once, a user can use different EOS dapps without logging in again as they move across the web, but Scatter also allows users to have multiple identities.

So, for example, a user could have one login for social networking sites and another to buy real things that will be shipped to their home.

The Scatter team wants to create a token to take on the issue of reputation, allowing different identities earn tokens to improve their reputation as needed on a given network. The token will be called RIDL.

“For us, it’s a way to actually create the initial supply. There is no maximum supply for the RIDL token,” Nathan James, Scatter’s founder told CoinDesk in an email. “They are minted every time a new identity is registered.”

Scatter’s token is unique in another way: it’s giving them to identities, not matching eos balances, and no identity can hold more than 100 ridl. Reputation can’t go any higher than that.

Chaince

This EOS-oriented exchange is unique on the list as it is already live.

Chaince will run an audit process that publishes reports about tokens listed on the platform. Called Choice of Chaince, this process is meant to make the platform one that reduces information asymmetry for token investors.

The white paper states:

“The Choice of Chaince audit team will focus on high quality decentralized applications based on the EOS system and look forward to projects that pass the audit having the opportunity to develop into multi-billion dollar commercial giants.”

Chaince tokens will be distributed to all holders of EOS early on, and the Chaince exchange will share a portion of its earnings with holders of the tokens (the exchange only charges a 0.2 percent transaction fee, according to its white paper).

According to a spokesperson, Chaince is already well funded, and the main purpose for the airdrop is to drive user adoption rather than to finance development.

EOSDAC

Remember The DAO? EOSDAC is bringing the concept back, launching a version that will decide projects to take on democratically and return the value realized back to the community.

EOSDAC is interesting because it already did its airdrop on April 15, based on block 300 of the EOS token sale. So, only people who were following EOS before the buzz in the final days before the airdrop were able to get the tokens.

But the airdrop has complicated the launch of the mainnet somewhat. In order to access EOS tokens after the launch, users need to have already established an EOS wallet and associated it with their ethereum wallet. Lots of conversation about the best wallets to choose addressed whether or not they were built to support EOSDAC tokens as well as EOS.

EOSDAC dropped 75 percent of its tokens to EOS holders.

Parachute

After all this talk about wide distribution of tokens, the platform obviously needs a tool to allow for permissioned, targered token giveaways. Enter: Parachute, a project of the block producer candidate EOS Dublin.

Parachute will create a membership-based system where a person can share information about themselves and receive offers for free tokens based on that information.

EOS Dublin isn’t actually offering a new token to run Parachute, but users will get airdrops, provided it works out. Unless the idea of creating new tokens for startups goes away, something like Parachute will be needed for a while.

Donuts photo via Shutterstock.

The leader in blockchain news, CoinDesk is a media outlet that strives for the highest journalistic standards and abides by a strict set of editorial policies. CoinDesk is an independent operating subsidiary of Digital Currency Group, which invests in cryptocurrencies and blockchain startups.

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OmiseGo Hits Two-Month High Amid Airdrop and Exchange Listings

OmiseGo’s OMG token is reporting double-digit gains today, figures that throw shade on the rest of the top 25 cryptocurrencies by market valuation.

Having clocked a two-month high of $20.67 earlier today, OMG is now changing hands at $18.20 on Bitfinex – up 15 percent in the last 24 hours.

Meanwhile, OMG’s BTC-denominated exchange rate jumped to a seven-month high (highest since Sept. 30) of 0.0023466BTC.

The price rise may be associated with the OMG’s listing today on Bithumb, one of the biggest cryptocurrency exchanges in South Korea. The token was alo listed on Zebpay, one of India’s largest cryptocurrency exchanges, yesterday.

Further, an OmiseGo “airdrop” (scheduled for today) may have played a major role in boosting prices. According to the official blog, existent OMG investors are set to be gifted 0.3 OMG for every 1 OMG held. So, the token may have been snapped up in the hopes of making free money, with a plan to take profits once the coins are received.

So while flying high at press time, OMG is already down 11 percent from the intraday highs and could face a deeper pullback going forward.

According to the chart analysis, though, the outlook will remain bullish as long as prices hold above $14.40.

Daily chart

The bullish triangle breakout indicates long-term bearish-to-bullish trend change and has opened the doors for a retest of the record high of $28.50.

It’s worth noting that the bullish breakout is matched by a 415 percent spike in 24-hour trading volume. So, the rally looks sustainable. Further, the momentum studies are biased to the bulls too, with both the 5-day moving average (MA) and the 10-day MA trending north.

View

OMG will likely take out the immediate resistance at $20.83 (Feb. 28 high) in a convincing manner and could rise to $28.50 (record high) in the near-term.

Only a daily close (as per UTC) below $14.40 (April 21 low) would signal bullish invalidation. Meanwhile, a drop below $12 would signal a bullish-to-bearish trend change.

Falling balls image via Shutterstock

The leader in blockchain news, CoinDesk is a media outlet that strives for the highest journalistic standards and abides by a strict set of editorial policies. CoinDesk is an independent operating subsidiary of Digital Currency Group, which invests in cryptocurrencies and blockchain startups.

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Compliant Airdrops: CoinList to Offer Investors Free Crypto Giveaways

Who thought giving something away could be so complicated?

That’s the question crypto innovators have had to come to terms with since the concept of “airdrops” – or the practice of gifting tokens in massive giveaways – has come under the scrutiny of government regulators.

But with the launch of a new product Wednesday, CoinList, an initial coin offering (ICO) facilitator spun out of the renowned startup incubator AngelList, is looking to streamline the process of airdrops in a way that doesn’t run afoul with the law.

Aptly named Airdrops, the product runs users through compliance checks and attestations so that a token issuer can give CoinList’s users free tokens. On top of that, if the issuer is looking for users that meet certain criteria (be it a profession or location), they can verify that users actually fit those backgrounds.

In this way, CoinList CEO Andy Bromberg believes he has found a way to enable airdropped offerings at a time when many in the industry are looking for a compliant service. Token issuers themselves have had no shortage of issues here, with some, including video-monetization service Stream, even backing off the concept altogether because of the regulatory uncertainty.

Indeed, the SEC hasn’t taken a formal stance on how it views crypto tokens delivered through ICO, airdrops or other forms of sales and giveaways, but it’s clear regulators are currently investigating that question.

Still, Bromberg is confident in his assembled solutions, and in interview, he hinted at dialogue with regulators that would attest to the viability of the service.

“In our typical compliance first mindset, we sat down and said: Is there a way to pull this off without violating securities laws? And what we came to is the compliant Airdrops product,” Bromberg told CoinDesk.

He continued:

“I can’t comment on individual discussions with the SEC. What I can say is we are in frequrent communication with them and — based on our understanding of securities law — we are very comfortable with this.”

Not only does the startup believe it has a solution for working under existing securities law, but it’s also opening up its existing user base of past investors to new token issuers. Once users have gone through the company’s compliance flow, they will be verified to receive airdrops, and CoinList will take a nominal fee from users (less than $1 per airdrop) to accept new tokens.

To date, according to its website, CoinList has run $850 million worth of token sales through its platform, representing what could be a vast pool of people interested in investing and taking part in future crypto tokens.

Compliance as a service

While that pool of potential investors will likely be attractive for token issuers, Coinlist’s product is opt-in – a feature added to reduce spam and mitigate the security threats that have become a common annoyance from crypto enthusiasts involved in such offerings.

Also, CoinList says it’s only willing to work with token issuers that are focused on complying with the law. And that’s partly because CoinList will be promoting these projects for issuers.

Still, CoinList’s Airdrops product seems to be set up whereby all the compliance effort is offloaded from the issuer, which many issuers will like since many are not securities law experts.

CoinList’s product allows for airdrops that might fall under Regulation S and Regulation D and will also collaborate with AngelList spin-off Republic, which has a license to sell securities under limited conditions to non-accredited investors using Regulation CF.

The company is also doing a country-by-country analysis to determine what sorts of checks issuers will need to do in order to airdrop to users around the world.

Depending not only on the goals of the issuer and who they want to give to, different levels of know your customer (KYC) and anti-money laundering (AML) requirements will be needed, and whether issuers can to both accredited and unaccredited investors or one or the other.

And all of this has already proven enticing to token issuers. Bromberg told CoinDesk the company is in negotiations with more than one issuer to use its Airdrops product but declined to disclose which ones.

While CoinList has so far been focused on fundraising, Bromberg said that potential issuers will not have to have a token sale on the platform in order to use the new product.

“We’re interested in exploring this model where in some cases … funding might be separate from distribution,” Bromberg said.

The right recipients

Still, different companies might have very different goals for an airdrop, and Bromberg gave two examples of use cases he believes could work well.

For example, he said a company with a token it believes regulators will recognize as a utility token, something used primarily to access a certain service, can use CoinList to get it in the hands of people who are likely to be the most interested.

This issuer might target software developers, and in this case, CoinList would enable them to authorize the airdrop to check a users Github API and distribute to developers with a certain commitment frequency.

Getting the tokens in the hands of people who will ultimately use the token as intended “will help that network get to a place where that token is no longer a security,” Bromberg said.

Still, there could also be companies that want to issue securities, Bromberg said: “A company could tokenize some of their equity and give that equity, give those tokens, to early users on the product.”

As such, CoinList will also offer a wide array of ways to authenticate users as meeting certain objectives, be it a certain audience on Twitter, a certain location in the world or a certain occupation. It can use APIs off other websites to verify these target goals to insure that an airdrop recipient meets them.

Because it is running KYC/AML checks on all of them, it also verifies that each user receives a token allocation only once. “It prevents gaming the system,” Bromberg said.

It’s an approach designed for an excess of caution, but one that’s also ready to adapt.

“Whether or not these things are securities, we are treating them like securities to be as safe as possible,” Bromberg said. To that end, some startups have been meeting with the SEC to ask for what’s called a no action letter, a document that says regulators believe a given company has not violated securities law.

If something like that comes to pass, CoinList is confident enough that the platform is ready for that, too.

Bromberg concluded:

“We’d be open to airdropping without the compliance layer.”

Jelly beans photo via Shutterstock.

The leader in blockchain news, CoinDesk is a media outlet that strives for the highest journalistic standards and abides by a strict set of editorial policies. CoinDesk is an independent operating subsidiary of Digital Currency Group, which invests in cryptocurrencies and blockchain startups.

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What ICO Issuers and Investors Need to Know About Taxes

Lisa Zarlenga is Co-Chair of the Tax Group and John Cobb is an associate at the law firm of Steptoe & Johnson.

The following article is an exclusive contribution to CoinDesk’s Crypto and Taxes 2018 series.


In the last couple years, blockchain token issuances–sometimes referred to as initial coin offerings or ICOs–have skyrocketed, both in terms of number and size.

According to CoinDesk’s ICO tracker, there were 43 ICOs in 2016 raising an aggregate $256 million; that number jumped to 343 ICOs in 2017 raising in excess of $5.4 billion; thus far in 2018, 92 ICOs have raised in excess of $3 billion.  

Much attention has been paid to regulatory issues in connection with token issuances, including the potential treatment of tokens as securities subject to regulation by the Securities and Exchange Commission, treatment of tokens as commodities subject to regulation by the Commodity Futures Trading Commission, and treatment of issuers as money services businesses subject to regulation by the Treasury Department’s Financial Crimes Enforcement Network (FinCEN).  

Less attention has been paid to the potential tax issues that may arise for both issuers and investors. But these issues are just as real.

The Internal Revenue Service (IRS) has not issued any guidance concerning the tax treatment of token issuances. Practitioners and taxpayers, therefore, generally are left to apply existing tax rules by relying on precedents and rules that provide imperfect analogies to token issuances.  

Many areas of uncertainty exist, including the proper characterization of tokens for tax purposes; reporting and withholding issues for token issuers; and the treatment of token pre-sales through the use of such instruments as Simple Agreement for Future Tokens (SAFT) or Simple Agreement for Future Equity or Tokens (SAFE-T).

Token tax treatment

In general, the facts and circumstances of a particular token issuance, including the rights associated with a token, must be analyzed to determine the appropriate characterization of the tokens for tax purposes.  

A token might properly be treated as debt or equity interests in the issuing entity, as equity in a de facto partnership among holders of the tokens if there is no entity, as a prepayment for goods and services, as “convertible virtual currency” under Notice 2014-21 (which is treated as property), or as some other type of property. The tax consequences to issuers and holders will depend upon which of these buckets the token falls into.

Equity. Tokens characterized for tax purposes as equity of a corporation (because, for example, they have rights to distributions, rights to a share of profits, or voting rights) generally do not result in current tax to issuers, and, if structured properly, investors may defer tax on any appreciated cryptocurrency used to acquire the tokens until they use or dispose of the tokens.  

If the equity interest is in a partnership, however, the rules can get very complicated, and the taxable income of the partnership will flow through to the investors, so they may have ongoing tax liability.

Debt. Tokens characterized as debt (because, for example, there is a definite obligation to repay the investor with interest) generally do not give rise to current tax to either the issuer or investor, but can result in deemed interest payments over the life of the “loan” and can result in tax to the issuer if the loan is ever forgiven.

Prepaid good/services: Tokens may represent the ability to acquire goods or services provided on the platform and, as such, may be characterized as a prepayment for such goods or services. If the issuer meets certain requirements, including not recognizing the income for financial accounting purposes, it may defer recognition of the income from prepaid goods or services until the following tax year.

Property. Tokens characterized as property (whether convertible virtual currency under Notice 2014-21 or otherwise) generally result in current tax to the issuer equal to the amount of the proceeds received less any basis in the tokens.  

In addition, if the investor used appreciated cryptocurrency to acquire the tokens, it will generally result in current tax to the investor on the appreciated cryptocurrency, though depending on the facts, the investor may be able to argue that the exchange of cryptocurrency for tokens was a tax-deferred like-kind exchange, at least before 2018.

Many of the tokens we’ve seen have multiple uses, including as a medium of exchange on the platform, and probably fall into this category.

Thus, ICOs permit token issuers to raise money early in the life cycle of the company, and that money may be taxed up front if the tokens are treated as property. However, the expenses to fully develop the platform may be incurred into the future, thus reversing the typical pattern of a start-up company.

Token airdrops

Some token issuers issue some of their tokens free of charge through an “airdrop.”

Recipients often sign up for airdropped tokens through the issuer’s website, and they sometimes have to do something to receive them, such as using social media to spread the word about the tokens.  

The value of tokens received in an airdrop is likely taxable income to the recipient, but they could give rise to a deduction to the issuer if they are considered payments for marketing activities.

Reporting and withholding

Token issuers should be aware of a variety of reporting and withholding requirements that could apply to token issuances.  

For example, token issuers could be subject to barter exchange reporting rules on Form 1099-B if the tokens are properly characterized as “scrip” through which customers of the issuer exchange property or services.  

If a token properly is characterized as equity or debt, then a token issuer may need to report on payments made to U.S. holders on the appropriate Form 1099 or withhold and report on payments made to foreign holders of tokens on Form 1042.  

If the token is properly treated as a partnership interest, the issuer must file Form 1065 and Schedule K-1’s to partners. Finally, token issuers should consider the potential application of reporting and withholding requirements on Form 1099 or 1042 if they airdrop tokens.

SAFTs and SAFE-Ts

Token issuers often pre-sell some tokens through a SAFT or SAFE-T.  

Under a SAFT, the holder typically pays a fixed amount (in either fiat or cryptocurrency) for the right to receive a determinable amount of tokens upon the occurrence of a token sale to the public.

SAFTs typically provide that the intended tax treatment of the SAFT is as a forward contract. If this treatment is respected, then taxation of the purchase amount should be deferred until delivery of the tokens to the SAFT holder. 

However, the characterization of a SAFT as a forward contract will not necessarily be respected by the IRS; the agency may seek to re-characterize a SAFT as a debt instrument or to distinguish it from a traditional prepaid forward contract and tax the proceeds upon receipt.

A SAFE-T is based on a Simple Agreement for Future Equity (SAFE), which is intended to be treated as equity rather than convertible debt. The tax treatment of a SAFE-T is uncertain, but it contains elements of both a SAFT and a SAFE.  

Depending on the terms of the SAFE-T, it could be treated as a contingent stock right, a SAFT with an equity kicker, or an investment unit consisting of an equity element and a SAFT element. 

Conclusion

It should be obvious from this discussion that there is little guidance from the IRS on how to treat a token offering, SAFT, or SAFE-T for tax purposes.  

Determining how to characterize these instruments for tax purposes is a fact-intensive process. Issuers should consult a tax adviser for assistance in structuring their token offerings so as to minimize the risk that the IRS will re-characterize them.

Tax form image via Shutterstock.

The leader in blockchain news, CoinDesk is a media outlet that strives for the highest journalistic standards and abides by a strict set of editorial policies. CoinDesk is an independent operating subsidiary of Digital Currency Group, which invests in cryptocurrencies and blockchain startups.

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Airdrop Attack? Coming Monero Fork Condemned as Privacy Threat

Giving away free crypto might not be as easy as it sounds.

By gifting new assets to existing cryptocurrency users, so-called “airdrops” are proving explosive, enabling the sudden creation of massive amounts of value almost overnight. But as the method is perhaps being hastily adapted, unexpected hazards are beginning to emerge.

Planning to launch on April 30, monerov is one such example. Seeking to correct what it sees as an error in monero’s value proposition, it aims to offer a variation on the software behind the 11th-largest cryptocurrency that alters the rate at which coins are created.

But there’s a catch. While monerov activates like all forks (by copying another crypto’s codebase), its design threatens to undermine one of the core privacy mechanisms of the protocol it’s splitting from. In short, because of the way it impacts monero’s privacy features, a single data leak could cause a chain reaction, one that potentially damages its future transactions.

Given the risks to the original blockchain, the idea has been met with an icy reception.

Researchers affiliated with monero are now speaking out, seeking to brand the giveaway, in which monero holders would receive free money, an attack.

“Forking an existing blockchain without taking into account the effects is a reckless disregard for user privacy with no real benefits,” a cryptographer at the Monero Research Lab, who goes by the pseudonym “Surang Noether,” flatly told CoinDesk.

That said, the airdrop only threatens one aspect of monero’s privacy model – other devices, that conceal transaction quantities as well as destination addresses, would be unaffected. But, there are concerns that it could set a precedent for further airdrops in the future.

As monero core developer “binaryFate” told CoinDesk:

“It is much easier to bootstrap a community by distributing ‘free’ tokens to an existing user base, than starting from a genesis block and convincing new users to join based solely on the merit of your technology.”

What actually is an airdrop?

A newly popular method for distributing new cryptocurrency, it’s notable that the attack vector exposed by monerov hinges on the very process of airdrops.

Rather than using code to calibrate a new blockchain, an increasing number of forks are choosing to inherit the former chain, allocating a time for when the the codebase will split off and continue.

“One must distinguish forking a codebase and forking a blockchain,” binaryFate said.

Typically, at a predetermined “block height,” a numbered block in the chain, the new cryptocurrency will create a “snapshot” of who owns what on the former chain.

This information is then replicated onto the new blockchain, giving users two wallets, and potentially, a crypto stash that has doubled in quantity.

On the bitcoin blockchain, participating in an airdrop can have privacy faults of its own. As highlighted by author Andreas Antonopoulos, claiming airdropped coins with a bitcoin key pair can risk linking an entire transaction history, even if a bitcoin user has been diligent.

The technique can also cause more systemic problems, such as the well-known “replay attack” – in the wake of a fork, there’s a risk that money spent on one blockchain will also transact on the other chain, sacrificing the integrity of the ledger.

Linking key images

But this particular attack is specific to monero. To achieve anonymized transactions, monero relies on three mechanisms: stealth addresses, ring signatures and ring confidential transactions.

Together, these code functions form a robust privacy model, as stealth addresses protect the identity of a user that receives funds, ring signatures protect the sender and ring confidential transactions obscure the quantities that are being sent in a transaction.

The fork attack impacts only one of these devices, the ring signatures.

In ring signatures, transaction outputs, or the information about what is being sent, is aggregated into a “ring” that obscures information by mixing it up with the randomly selected transaction outputs of other monero users.

However, this presents a problem: “You never know if an output is actually spent or not,” binaryFate explained.

Because transaction outputs are hidden, nodes cannot verify that an exchange took place, meaning that a malicious user could spend the same XMR repeatedly.

To correct this, monero relies on what is called a “key image,” which is a proof that one piece of data within the ring signature is genuine. But while this remains privacy preserving as a one-use item on a single blockchain, if a key image is repeated, it can expose the original transaction output.

“This defeats the point of using ring signatures at all for that particular output,” binaryFate said.

But there’s a further risk arising from the airdrop, as well.

Because old transactions are sometimes included (a “decoy” to further secure the privacy of ring signatures), the exposed transaction could have an unpredictable impact across the monero blockchain, damaging the privacy of multiple users as an increasing number of fragments of a ring are revealed.

And, due to the nature of the attack, the deanonymization process would happen exponentially.

Surang explained:

“If a substantial fraction of monero users claimed funds, the statistical likelihood that real inputs could be identified begins to increase.”

Mitigation measures

However, Surang continued, to pose a serious risk, a large portion of monero users would need to participate in the airdrop. So, the fix is fairly simple: users could stay away from forks in which their private keys might be reused.

Toward this, monero developers and community members are coordinating to warn others of the risks posed by the upcoming airdrop.

“There is a social, voluntary-based component to the general mitigation: educate monero users to protect themselves,” binaryFate told CoinDesk.

However, warning users away from a free crypto can be a hard sell, and the monerov Twitter and Telegram groups have a growing numbers of users.

“The promise of free money is compelling. If someone mailed me an envelope of cash, it would be tempting to keep it,” Surang admitted.

Against this, there’s two major steps that the monero team has taken. First, because the attack effectively decreases the ring size by revealing certain outputs, monero will increase the ring size in response.

Additionally, monero has coded up a mitigation that protects the exposure of outputs by insuring that key images are contained to a single ring signature. By deploying this, which Sarang described as “the safest approach,” data leaks can be avoided.

Monerov has said it is researching privacy protection for the upcoming fork, however, it is unclear whether the team intends to deploy the fixes recommended by the monero core team.

In an email to CoinDesk, monerov’s developers said they intend to raise the size of its ring signatures and deploy a “time gap” between the snapshot and mainnet release, to protect against information exposure.

However, the coordination necessary to stave off the attack between the two groups has been limited.

Speaking in an online chat, monero developer “moneromooo” warned that if the airdrop fails to implement the recommended fixes alongside monerov’s own methods, “It appears to be not a mitigation, but a worsening.”

As such, speculation is spreading among monero developers as to whether the airdrop is a deliberate, sophisticated attack.

BinaryFate told CoinDesk:

“It doesn’t really matter whether the attack is malicious or simply a greedy money grab, the threat is the same anyway.”

Silver forks image via Shutterstock

The leader in blockchain news, CoinDesk is a media outlet that strives for the highest journalistic standards and abides by a strict set of editorial policies. CoinDesk is an independent operating subsidiary of Digital Currency Group, which invests in cryptocurrencies and blockchain startups.

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So Long ICOs, Hello Airdrops: The Free Token Giveaway Craze Is Here

Imagine getting $1,000 just for joining a newsletter.

Well that’s effectively what happened for those that subscribed to Onchain’s newsletter early on in the project’s lifecycle. The company, which is building the Ontology network designed to connect real-world institutions to each other, gave 1,000 of its “ont” crypto tokens to people who signed up for its newsletter prior to a certain date.

Those crypto tokens were distributed earlier this month and are now trading for a little over one dollar per coin, according to CoinMarketCap.

“Ontology just raised a private round and then didn’t need to do a [public] crowdsale, so they just airdropped to eager NEO hodlers,” Keld van Schreven, a partner at blockchain investment company Kryptonite1, told CoinDesk.

Van Schreven’s comment speaks to a broader trend in the cryptocurrency space of token issuers raising the money they need in private initial coin offerings (ICOs) and then skipping the public sale for what’s being called an airdrop. Effectively these are just token giveaways to broader interested community members

Justin Schmidt of Translunar VC has seen the same trend, telling CoinDesk:

“As a non-accredited investor, it is proving to be very difficult to find public sales to participate in until the tokens are traded on an exchange.”

Whereas the idea around public sales was that the people who buy in are those that understand the platform’s value and will promote the token, airdrops look to accomplish a similar goal, yet expecting that if people hold tokens, they’ll be interested in seeing the network, and the token’s price, grow and promote the platform just the same.

An internet search for “airdrops” or “free tokens” yields lots of websites, subreddits and Telegram channels that people can follow to gather up crypto tokens. And there’s even a Pokémon Go imitator under development that would allow companies to distribute free tokens to people playing an augmented reality game.

But these airdrops might not only be about building a community but likely also have something to do with an uncertain regulatory environment.

For instance, in the U.S., many ICO issuers and investors have become convinced that the Securities and Exchange Commission (SEC) will eventually declare that all crypto tokens are securities and as such, need to be registered under those already established and cumbersome laws.

But even outside the U.S., completing know-your-customer (KYC) and anti-money laundering (AML) compliance for public sales takes a substantial amount of work and time.

Speaking to token issuers stepping away from public sales, Minhui Chen, a partner at Global Blockchain Innovative Capital (GBIC) told CoinDesk, “Raising money from private sales is so easy.”

Tokens, away!

According to Althea Allen, ecosystem relations at payments startup OmiseGo, said her company pioneered the airdrop concept on ethereum in August last year, after announcing it would airdrop its “omg” tokens to every wallet that held more than 0.1 ETH.

OmiseGo decided to do an airdrop to raise awareness about the project, but Allen spoke to the broader benefits of airdrops, saying, “The real value of ethereum projects doing airdrops to all ETH holders is that it’s a crypto economic mechanism designed to incentivize ethereum project communities to maintain alignment with the entire ethereum community.”

The omg token’s price has since been volatile (many crypto tokens are), but it has trended up overall.

Yet because of the ease to airdrop, many, including van Schreven, think crypto wallets are starting to feel “like spam in email.”

Indeed, in China, many people refer to these offerings as “candy,” Chen said, continuing:

“Low quality projects are taking advantage of airdrops to make a fake community.”

And Schmidt echoed that, saying, “Not having the choice to decline these airdrops can, in my opinion, cause some issues in the future.”

As such, many investors, who nonetheless support the larger phenomenon, also believe the mechanism could be used more effectively.

Brayton Williams of Boost VC, a fund that favors crypto projects with a strong focus on community, thinks issuers could do a better job of targeting with airdrops. For example, he’d like to see issuers focus airdrops on people based on geography, demographics, etc. to cultivate the best market for the future platform.

Williams told CoinDesk:

“Airdrops combine the best of paid referral programs with stock options. Potential users get paid for joining or using the network and have the potential upside if the network increases in value.”

Some crypto companies are taking heed of this advice.

Swarm, a blockchain for tokenizing private equity, just announced a few airdrop promotions, two of which encourage referrals, although by far the largest token sale on the platform is one that just drops tokens to existing cryptocurrency holders.

And Earn.com (formerly 21.co) has offered a standalone product for startups to distribute tokens directly to its members since the end of January. Startups that want access to Earn.com members pay small amounts of bitcoin to get users to sign up. But many are willing to pay a fee since the company validates every member, linking a wallet to one distinct person.

“The unique thing that earn.com offers really is the validation side of things,” Dave Bean, from Earn.com’s sales team, told CoinDesk.

He added that while many platforms that allow token issuers to airdrop might have a lot of email addresses, many individuals could be gaming the system by signing up multiple times with different addresses.

Firewall USA

That said, issuers in the U.S. are still skittish about doing airdrops to promote platforms.

Stream, a blockchain-based video streaming platform, dropped a public sale that was on its roadmap for an airdrop (and subsequent airdrops to cement adoption), but currently, the airdrop has been delayed indefinitely, because of concern that airdrops could also be in violation of securities law.

“We can’t be sure,” said Todd Kornfeldt, Of Counsel at the law firm Pepper Hamilton LLP, pointing to SEC actions from 1999 which targeted companies giving away free traditional equity.

“Perhaps the SEC thought there was some kind of quid pro quo in giving those securities away and that resulted in a benefit to the issuer,” Kornfeldt said. “And that fact pattern is similar to the fact pattern of an airdrop.”

This will definitely affect token issuers since the U.S. is the largest market both for investment and technology users.

But until the regulatory environment in the U.S. becomes more clear, token issuers may experience far less hindrance in the rest of the world.

Although some aren’t letting the regulatory environment hold them back. For instance, Onchain isn’t done using airdrops to promote its platform.

“The next community reward opportunity will be for active participation in Ontology after the release of the mainnet in Q2 2018,” Daniel Assab, a spokesperson for the company, said. “It won’t be for anything like a newsletter subscription, but no further details for now.”

Still many advise against airdrops for now.

According to Chen, “We advise [token issuers]: Don’t do airdrops. Please do public sales.”

In his mind, public sales actually engender a more authentic community. In other words, it brings in people who understand the project well enough that they’re likely to actually hold some of the tokens they buy to use in the future, instead of just dumping them on price rises.

Schmidt tends to agree, but hedges saying:

“It’s very early to see how this trend will result, but I do believe you need the actual users to have access to the tokens.”

Balloons photo via Shutterstock.

The leader in blockchain news, CoinDesk is a media outlet that strives for the highest journalistic standards and abides by a strict set of editorial policies. CoinDesk is an independent operating subsidiary of Digital Currency Group, which invests in cryptocurrencies and blockchain startups.

Disclaimer: This article should not be taken as, and is not intended to provide, investment advice. Please conduct your own thorough research before investing in any cryptocurrency.