In this issue, we will be taking a closer look at Sovos.
In this edition of the Protocol Newsletter we spoke with Kyle Clark, Global Alliances Manager – Digital Assets, of Sovos about their work in the digital securities space and the role Sovos plays in this emerging ecosystem.
1. Who is Sovos and what do you do?
Sovos is the leading global provider of software that safeguards businesses from the burden and risk of modern tax. As tax goes digital, businesses face increased risks, costs and complexity particularly within the digital asset arena. Sovos is the largest private filer of 10-series forms to the IRS and supports more than 7,000 customers. This includes half of the Fortune 500, major crypto organizations, and digital security companies such as Securitize. Sovos is an active member in several industry groups and advisory boards including the Information Reporting Program Advisory Committee (IRPAC), the Electronic Tax Administration Advisory Committee (ETAAC), the Wall Street Blockchain Alliance (WSBA), the Accounting Blockchain Coalition (ABC) and the Organisation for Economic Co-operation & Development (OECD) Working Party 10 Group.
2. How does Sovos work with digital securities?
Digital securities are new, innovative financial products with tremendous potential. And while tax regulations governing these new financial products can be ambiguous at times, existing rules still apply and it's the responsibility of the digital security issuer to operate within the existing rails to the best of their ability. Sovos has over 30 years of experience working with some of the largest and most innovative financial institutions in the world. Leveraging that experience in the digital security space helps us to educate our clients regarding what tax information reporting requirements may apply when launching these new products and what they need to do to stay compliant.
3. Why should those issuing digital securities care about the Sovos integration with Securitize?
Companies and funds issuing digital securities owe it to their clients and investors to operate within the existing tax and regulatory framework, or do so to the best of their ability. That includes providing clients and investors the proper tax information. While some grey areas still exist, there is no excuse for doing nothing. Pick a tax reporting methodology to live by, communicate that to your community and live up to it. In the ever-evolving ecosystem of digital assets, compliance is a competitive advantage.
Second, the penalties for non-compliance can be immense. The minimum penalty for not reporting a particular event to the IRS (Dividend disbursement for example) or failure to provide proper documentation to investors carries a $270 per form penalty with a maximum penalty of $3,339,000 per form. Kind of crazy, right? And failure to report to the IRS or not providing the necessary documentation to investors is only one piece of the compliance puzzle. Filing inaccurate name and TIN combinations or providing tax documentation in non-compliant ways are two errors we see all the time and the same penalties apply.
4. How does Sovos deal with evolving tax laws related to new technologies like digital securities?
The Sovos global compliance team is made up of over 100 tax and regulatory experts who closely monitor all proposed changes to tax law and regulation across the globe. They then interpret those regulations and work closely with our product team to ensure our solutions deliver and are always up to date. A good example of this would be recent IRS mandated changes to both forms 1099-DIV and 1099-B, two documents Securitize is responsible for providing as a registered transfer agent. Although the changes to these two forms were seemingly small, income reported was being shifted to a new box in both cases, misreporting can cause a headache for clients and expose the transfer agent to penalty risks. The Sovos team tracked these regulations from their proposal all the way to implementation. As a result we were able to educate our clients and update our software as soon after these new laws were on the books.
5. Do tax laws differ for private securities and digital securities? And if so, how?
The short answer is no. Despite the fact that digital securities are classified as property, the existing rules and regulations for private securities also apply to digital securities. However, each digital security offering has its own rules built into the smart contract. Those rules define what economic rights the Security holders receive and the legal instruments that govern those rights. In other words, each digital security offering can be completely unique.
6. What are the most common tax mistakes businesses make when issuing digital securities?
We see three on a regular basis...
Not validating TINs: Be sure to validate TIN data (SSN or EIN) before issuing digital securities and executing any type of tax information reporting to the IRS. TIN validation is not required in the KYC/AML process. However, filing incorrect data with the IRS immediately puts a target on your back for penalties. Over the years, many people have registered with a digital asset issuer using incorrect personal information on purpose in order to avoid the tax implications. Even if a small percent of your users have done this, the financial penalties can get very large very quickly.
Not communicating with investors: Make sure to clearly communicate to your investors/clients how tax information will be provided to them. Paper is the default in the eyes of the IRS, therefore users need to specifically opt-in to receiving this documentation electronically. Furthermore, once someone opts-in to receiving documentation electronically they also need to be provided the option to opt-out and revert back to paper. And if mistakes are made, the same penalties apply.
Not communicating with partners: To provide a digital security offering, the broker/dealer, issuer, transfer agent, custodian, etc... all need to work in tandem. All parties need to be aware of who is responsible for what when it comes to tax compliance. We have conversations with organizations all the time who were under the impression that a partner of theirs was providing tax information to the recipients when that partner made the same assumption about them.
For a deeper dive on these issues we recently published an industry Crypto Tax Report together with BLOX and the Accounting Blockchain Coalition.
7. What will be the benefits of digital securities 10 years from now, and what role do you envision Sovos and Securitize playing?
I believe the benefits of digital securities will be:
Greater liquidity due to the creation of secondary markets which didn’t previously exist for non-liquid assets (real estate, art, etc…).
Faster and more efficient transactions thanks to smart contracts that automate much of the exchange process and remove the need for third party operators.
Greater transparency as ownership and rules governing the security are built into the governing smart contract.
Accessible to anyone as digital securities have reduced minimum investment amounts, lower required holding periods and a lower bar for who can invest. For example, you may not need to be an accredited investor.
Securitize is a pioneer in the digital asset and tokenization space. I believe the leg work they’re doing now is laying the foundation for an emerging industry with immense potential on a truly global scale. 10 years from now their experience in the digital security space will be invaluable for their existing and prospective clients.
At Sovos, we’ll be doing what we’ve been doing for the past 30 years; helping businesses safeguard themselves from the burden and risk of modern transactional taxes. Ten years from now we’ll continue to help businesses focus on growth without worrying about the opportunity cost of tax compliance.
8. Are Sovos’s more traditional clients adopting digital securities?
Very much so. Many of our clients within the banking industry have taken on leadership roles at the consortium level to advance this technology and develop industry standards. The level of collaboration between competitors is truly unprecedented. The leaders of these organizations are pragmatic thinkers and they understand the enormous potential of digital securities.
Some of the largest payment processors in the world are accepting crypto. Employers are beginning to offer compensation in the form of cryptocurrencies. And digital assets are making their way into retirement plans as an investment product. It would be more difficult to identify an industry that isn’t being disrupted by this emerging technology.
9. What can we do to accelerate the adoption of digital securities?
When discussing the adoption of digital securities, we’re really talking about two separate things; adoption within the commercial space and adoption at the retail level. In both cases I believe education is key. The emergence of initial coin offerings (ICO’s) as a way to raise capital was truly revolutionary however the scams that followed poisoned the well. Commercial and retail investors alike need to understand that digital securities, when following appropriate regulations, provide the safest and in many cases the ‘best’ way to own a security based on the benefits highlighted in question 7.
The old way of issuing securities (paper-based) is slow, costly, inefficient and ripe for human error. By Securitize providing primary issuance and compliance software for digital security creation you’re supplying the infrastructure necessary for commercial and retail investors alike to regain much needed trust in these new financial products.
Clear guidance from the necessary regulatory bodies here in the United States would accelerate adoption. Many companies operating in the digital security ecosystem are eager to follow the rules, but are unsure what the rules are. Innovation will always outpace regulation, however, when it comes to digital securities, regulation needs to pick up the pace. Digital securities aren’t going anywhere. Regulators in the United States have the ability to set the bar and help perpetuate growth but if they don’t act soon this opportunity will fall by the wayside.
The Protocol Newsletter is an inside examination of accomplishments within the digital securities industry. The Protocol Newsletter features issuers, issuance platforms, marketplaces, broker-dealers, custodians, marketers, and more, with a specific interest in their real-life stories about what it takes to issue and manage digital securities on public and permission-based blockchains. Our goal is to provide the digital securities industry with invaluable insights and to serve as a resource for those looking to issue digital securities in the future.
Sovos is a leading global provider of software that safeguards businesses from the burden and risk of modern tax. As governments and businesses go digital, businesses face increased risks, costs and complexity. The Sovos Intelligent Compliance Cloud combines world-class regulatory analysis with its secure, scalable and reliable S1 cloud software platform to create a global solution for tax determination, e-invoicing compliance and tax reporting. Sovos supports more than 7,000 customers, including half of the Fortune 500, and integrates with a wide variety of business applications. Headquartered in Boston, Sovos has offices throughout North America, Latin America and Europe. Sovos is owned by London-based Hg. For more information visit the Sovos website and follow us on LinkedIn and Twitter.
Securitize delivers trusted global solutions for creating compliant digital securities. The Securitize compliance platform and protocol provide a proven, full-stack solution for issuing and managing digital securities (security tokens). Securitize’s innovative DS Protocol has the highest adoption rate in the industry and enables seamless, fully compliant trading across multiple markets simultaneously. Multiple Securitize powered digital securities are already trading globally on public marketplaces with many more in the pipeline.
To learn more, please visit our website.
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