What is a Crypto ICO and How is it Taxed?

Crypto ICOs offer high rewards and steep losses. Learn everything you need to know about crypto ICOs, including what ICOs are, how ICOs work, how to avoid ICO scams and how ICOs are taxed in this guide.

What is a crypto ICO?

ICO stands for initial coin offering. It’s the crypto equivalent of an initial public offering (IPO) - when a company offers shares to the public for the first time. Similar to an IPO, crypto businesses launch ICOs to raise funds.

Investors can buy into ICOs to receive the new coin or token issued by a given company. The types of coins and tokens available are vast. Investors may receive a utility token that helps them use a specific product, a governance token that gives them a say in how the new company is run or they may simply receive a new coin and hope that it appreciates in value.

How crypto ICOs work

Though the end goal of any crypto ICO is to raise funds and encourage investment, there are a few common ways ICOs can be structured. This means different ICOs work slightly differently - which matters for your investment. These include:

Static supply and static price ICO

A company sets a specific funding goal. Each coin or token sold in the ICO has a set price. The token supply is fixed. So for example, a company wants to raise $1 million, so they sell 1 million tokens at $1.

Static supply and dynamic price ICO

A company sets a dynamic funding goal. There is a static supply of tokens. The amount of funds received in the ICO determines the overall token price. So for example, a company launches an ICO and raises $3 million. There is a static supply of 1 million tokens, so each token is worth $3.

Dynamic supply and static price ICO

A company sets a specific funding goal, but no limit to the amount of tokens. The supply of tokens is determined when the fundraising goal is reached. So for example, a company sets a $1 million fundraising goal and reaches it. At the point they reach it, there are 500,000 tokens in circulation, meaning each token is worth $2.

The structure of a crypto ICO should be laid out in a whitepaper, which is made available to prospective investors via a specific site and through promotions. This white paper doesn’t just lay out the structure of the ICO, it should include many details about the project including:

• The purpose of the project.
• How long the ICO will run for.
• The future goals arising from the project.
• A breakdown of the funds needed to complete the project.
• What percentage of the coins or tokens are kept by the company or other invested parties.
• What currencies the company accepts as investment - whether that’s fiat or another cryptocurrency.
• The terms and conditions of returning funds if the ICO is unsuccessful. 

Who can launch a crypto ICO?

Anyone.

There is barely any regulation around crypto ICOs around the world. Of course, this can be appealing as it may lead to greater rewards… but it’s also a huge problem because many crypto ICOs are straight up scams. 

Crypto ICO Scams

Crypto ICO scams are painfully common and there are some very infamous examples of ICO scams.

PlexCoin was a well-known crypto ICO scam. The PlexCoin ICO raised $20 million, which is unsurprising given they were promising returns of 1,354%. Of course, the company couldn’t live up to this and was quickly shut down by the US Securities and Exchange Commission (SEC). Fortunately in this instance, thanks to the SEC involvement, PlexCoin was ordered to pay back the vast majority of the $20 million they defrauded investors of. But many investors who fall foul of crypto ICO scams aren’t so lucky. 

Perhaps the most famous of all crypto ICO scams is Bitconnect. The Bitconnect ICO raised a colossal $3.45 billion. The project owners promised that Bitconnect would be an open-source currency and guaranteed 40% returns on investments. What they weren't so forthcoming about was that Bitconnect was connected to a high yield investment program - in other words, a kind of Ponzi scheme. 

Not long after the ICO launched came the claims of illegitimate activities - both from investors and financial regulators. The currency ultimately collapsed and lost liquidity resulting in a complete loss of value for many investors. 

Avoiding a crypto ICO scam might seem as simple as avoiding dubious websites with unscrupulous claims of high returns on them - but it’s not quite the case. Even celebrities like Floyd Mayweather and Khaled have been paid to promote crypto ICOs that turned out to be scams. Although both have been taken to court regarding this since - it goes to show it’s not always that easy to spot a crypto ICO scam.

In general, the best thing you can do is your homework on any crypto ICO. Learn about the business, look for objective opinions in the crypto community, ask more experienced investors for advice, learn about the developers behind the project and product and so on. Remember - if it sounds too good to be true, it probably is.

Examples of crypto ICOs

Just because crypto ICO scams are prevalent doesn’t mean all crypto ICOs are a scam. Quite the opposite in fact, some crypto ICOs have been very successful. Some examples of successful crypto ICOs include:

Ethereum ICO

Way back before ETH was one of the most popular cryptocurrencies around, Ethereum launched an ICO to raise funds to develop their smart contracts capabilities. ETH tokens initially sold for $0.31 each during the ICO. At the time of writing - just one ETH is valued at $3,812.

Ark ICO

Ark is a decentralized digital currency platform that aims to integrate non-native cryptocurrencies onto its own blockchain. ARK coins were initially priced at $0.04 during the ICO launch and later reached a peak of $11 - providing an incredible ROI of more than 35,000% for early investors who sold at the peak.

Cardano ICO

Cardano launched its ICO in January 2017 - promising to use the funds raised to develop smart contracts and Dapps capabilities. The ICO raised more than $62 million with each token priced at $0.02. ADA is now priced at $1.33 at the time of writing - with many expecting it to hit new heights in the future.

How are crypto ICOs taxed?

If you are one of the lucky ones to invest in an ICO and reap the high returns - we’ve got some bad news for you. In many countries, ICOs are taxed. How they’re taxed all depends on whether you’re launching an ICO or whether you’re participating in an ICO as an investor. Let’s break it down.

If you’re launching an ICO, most tax offices will view this as a kind of Income. So you’ll pay Income Tax on all proceeds, regardless of whether you use fiat currencies or cryptocurrencies for funding.

For investors, it’s a little more straightforward. The vast majority of tax offices around the world haven’t yet issued guidance on ICOs - however we can follow the tax treatment of IPOs as guidance. In most countries, this means you’ll pay no tax at the point you invest in an ICO. It’s only when you later sell, swap, spend or gift your coins or tokens from an ICO that you’ll pay Capital Gains Tax on any profits.

The amount of tax you’ll pay depends on where you live and how large your gain is. You can calculate your gain or loss from an ICO easily. Just subtract the price of the coin/token when you acquired it from the price of the coin/token when you sold it. If you traded your coin/token for another crypto - use the fair market value of the coin on the day you traded it in your chosen fiat currency to calculate this instead.

Calculate crypto taxes with Koinly

Koinly helps crypto investors around the world do their crypto taxes in no time at all. All you need to do is sync the wallets, exchanges or blockchains you use with Koinly using API or import your transaction history using CSV files. Once you’ve done this, Koinly will calculate your crypto capital gains, losses, income and expenses for you and generate a tax summary. You can then download a complete tax report - ready to submit to your local tax office.

When it comes to crypto ICOs, all you need to do once you’ve synced your transactions with Koinly is find the specific ICO transaction and enter your cost basis (how much you bought the coins/tokens for). From here, Koinly can then calculate any subsequent capital gains or losses from selling, swapping, spending or gifting your coins or tokens. Learn more about ICO transactions and Koinly here.