The US Department of the Treasury and the Internal Revenue Service (IRS) have released the final version of its brokerage rules for digital asset service providers, which include provisions requiring DeFi protocols to conduct know-your-customer procedures (KYC).
Industry experts have already criticized the new provision, calling it illegal and outside the Treasury’s regulatory reach.
The regulations require brokers who take possession of digital assets on behalf of clients, including DeFi front-ends as brokers, to report sales and trades, as well as track and report user activity.
Since a broker must report usage tax, the new rule requires DeFi front-ends to perform KYC processes.
Although digital asset brokers are expected to comply with the new rules by January 1, 2025, the obligations will only be applied to DeFi brokers by January 1, 2027. The different starting periods are based on the lack of systems Appropriate backup, collection, reporting and storage of information.
Additionally, the IRS has indicated that it will address reporting rules for these entities in future regulations.
Bill Hughes, Consensys Senior Counsel pointed out that DeFi frontends would also be required to report the activities of both U.S. and non-U.S. persons.
Additionally, the reporting is applied to every digital asset traded, including non-fungible tokens (NFTs) and stablecoins, despite crypto industry players advocating for narrower definitions.
Transition period and exclusions
The rules provide broker-dealers who make good faith efforts to comply with the new rules relief from reporting penalties and backup withholding for transactions occurring in 2025. Limited relief from backup withholding will also apply to certain transactions in 2026.
Additionally, gross proceeds reporting is required for transactions made on or after January 1, 2025, while cost-based reporting obligations will begin for transactions on or after January 1, 2026.
Additional reporting requirements apply to real estate professionals using digital assets for closings beginning January 1, 2026.
Notably, certain types of transactions have been excluded from immediate reporting requirements. These include packing and unpacking, liquidity provider, staking and lending operations.
However, the IRS plans to issue future guidance to address these and other complex aspects of the DeFi ecosystem.
Community reaction
Hughes said the broker rule means the outgoing administration is “not going quietly.” He believes a lawsuit will be filed, claiming the rule exceeds Treasury’s authority and violates the Administrative Procedure Act.
As a result of the lawsuit, the rules will likely be reviewed by Congress, where they may be disapproved, citing the rescission of Staff Accounting Bulletin (SAB) 121.
Jake Chervinsky, General Counsel of Variant Fund, called the rule is illegal and said it is the “dying sigh” of the anti-crypto army about to leave power. He added:
“It must be struck down, either by the courts or by the new administration.”
Alex Thorn, head of research at Galaxy Digital, declared that the broker rule is “extremely burdensome,” adding that it will likely be revised by a congressional review bill.
