As the use and acceptance of digital currencies increases, they have entered many traditional investment markets. Commercial real estate is no exception. The conversion of real estate assets into digital tokens (“tokenization”) using blockchain technology continues to grow, with a market size of approximately $200 million and real estate tokens accounting for nearly 40% of the digital securities market. . Tokenization is attractive because it enables digital ownership of real estate, fractional shares, and rapid transfer of wealth. Virtual currency is defined for federal income tax purposes in Notice 2014–21, 2014–16 IRB 938 (April 14, 2014) (Notice 2014–21 or the Notice) as a digital representation of value that acts as a medium of exchange. I am. A unit of account or store of value other than the U.S. dollar or a foreign currency (legal tender). This notice provides that convertible virtual currency (i.e., virtual currency that has a value equivalent to, or acts as a substitute for, real currency) is treated as property for federal income tax purposes. I am.
In November 2021, the Infrastructure Investment and Jobs Act expanded Internal Revenue Code Section 6045 to require reporting of certain transactions involving the sale or exchange of digital assets. On August 25, 2023, the Department of the Treasury promulgated over 280 pages of proposed regulations. These proposed regulations define digital assets as “digital representations of value recorded on a cryptographically secured distributed ledger.” Real estate tokens clearly meet the definition of digital assets and are therefore subject to the final regulations. It is important to note that these are not. Last The regulations and comment process are still open, with a public hearing scheduled for November 7th.th and 8th.
However, a look at the proposed regulations applicable to real estate tokenization yields some interesting observations.
- Privacy and security. To address the substantial anonymity of these transactions, information reporting requirements appear to go far beyond the information required of taxpayers in traditional real estate transactions. This is subject to change based on public comments, but the scope of information required (wallet address, blockchain transaction identification, type of consideration, etc.) makes this less common in traditional real estate transactions where the actual account is not disclosed. It raises privacy concerns where none exist.
- transaction costs. If the proposed regulations continue to have far-reaching effects, there are concerns that actual security and privacy efforts will result in additional transaction costs that offset the inherent benefits of digital transactions. In other words, the costs of complying with regulations while protecting party privacy and security will outweigh the benefits of tokenizing real estate.
- broker. The definition of “broker” in the proposed regulations is broad and could include real estate brokers. Under the proposed regulations, “brokers” would be required to report their gross income and cost basis in the same manner as stockbrokers. The Treasury Department is also discussing a new Form 1099-DA. Traditional real estate brokers looking to participate in the sale of tokenized real estate may face a different type of compliance issue. Therefore, this regulation could increase barriers to entry for traditional real estate agents and further divide the physical market into digital and non-digital.
- real estate report. The proposed regulations would also complicate and expand the reporting of real estate transactions. Proposed regulations § 1.6045–1(a)(1) were also amended to provide that a “real estate reporter” is a broker with respect to digital assets used as consideration in a real estate transaction. 6045(e)(5) or that under proposed section 1.6045-4(a) without regard to the reporting exceptions provided under proposed or existing section 1.6045-4(c) or (d). Returning information regarding real estate transactions. ), such as the exception for certain sales of principal residences or the exempt real estate seller exception. So, for example, a real estate reporter must report the exchange of a digital asset for real estate as a sale of the digital asset by the real estate purchaser, even though the real estate reporter is not required to report on the real estate. Under existing § 1.6045–4(d), an exchange of real property and digital assets by a seller based on the fact that the seller of the real property is an exempt seller, such as a corporation. ” You need to pay attention to your broker, title company, and your entire traditional HUD listing.
It will be interesting to see how this plays out and develops. The tokenization of real estate is likely to advance further as different rules between jurisdictions become more specific and more consistent. However, the addition of extensive regulation on top of the challenges still faced in communication and record-keeping from a digital perspective could slow this growth.
