Some investors are now speaking of bitcoin as a legitimate investment for SMSFs. Like many, I initially reacted with scepticism when asked to consider bitcoin. I was even more sceptical when bitcoin was proposed as an investment inside self-managed super. You can only imagine how wound up I got when I started to think about how it could be examined as part of a ‘proper' SMSF audit.

Some key questions around bitcoin and SMSFs are:

Can bitcoin be held as an investment of an SMSF?
Can bitcoin be used to purchase SMSF assets?
Can bitcoin be accepted as consideration for the sale of an SMSF asset?
Is it possible for SMSF members to make contributions in bitcoin?
How does an SMSF auditor effectively audit a fund which has used or accepted bitcoin?

Bitcoin as an investment

There will be those that say “bitcoin does not pay income so it is not an appropriate investment for an SMSF”. It may be argued that gold bullion is an investment that doesn’t pay income either. However, there is the potential for capital gains, which may constitute taxable income in the fund. So it could be argued bitcoin is similar to holding gold bullion.

The means of acquiring bitcoin can vary from purchasing the asset directly (via an electronic intermediary) to investing via a dedicated fund (e.g. bitcoin exchange-traded fund). Therefore long-term bitcoin investors can acquire, hold and sell bitcoin. Also, year-end price can be captured to record market value.

An auditor will, of course, check the trust deed and the investment strategy to ensure bitcoin or other online/virtual/crypto currency may be held as an investment of the fund.

Acquiring and transacting bitcoin

The current price of a bitcoin is around US$320 per unit (or BTC). The price has fluctuated significantly. From a start of US$1, the price moved up to around US$1,200 in 2013, then dropped significantly afterwards.

In order to use bitcoin to pay for something, first you need to have acquired bitcoin. This can be done using a nominated bank account where money is transferred to an electronic intermediary (such as Coinjar) that converts standard currencies (such as the US dollar) into bitcoin.

With bitcoin, the purchaser receives a ‘wallet’, which is a collection of electronic keys that unlock bitcoin addresses to enable a specific transaction.

Transactions then occur between ‘addresses'. Every 10 minutes all transactions are time-stamped and published as a ‘block’, hence blockchain. The worldwide decentralised bitcoin network produces a ledger which records the owner's transactions in bitcoin.

To further clarify, a parallel can be made between the bitcoin network and internet service providers (ISPs). ISPs all make links to each other which eventually span across the globe. People make use of ISPs to access the internet and send messages (such as emails).

The bitcoin network makes this distributed ledger which spans across the globe. People make use of the bitcoin network to access the ledger and send transactions.

There have been some examples of large assets (such as real estate) being sold in exchange for bitcoin. It therefore appears feasible that SMSFs may acquire real estate investments with bitcoin (to the exclusion of stamp duty and other such taxes).

Auditing bitcoin transactions

As an auditor, I immediately ask how are the key audit assertions of ownership, existence and valuation satisfied? Does this electronic environment allow the correct name of the fund to be recorded on the bitcoin asset? Is there an electronic trail (or ledger) of bitcoin transactions? Is this reliable and transparent? Can an electronic confirmation be obtained on closing balances? How do we prove the bitcoin asset actually exists?

The audit of a bitcoin account appears similar to an audit of other bank accounts. A holder of BTC obtains their own bitcoin address, and the blockchain ledger maps that address. This essentially becomes an account, showing movements and balances. The bitcoin address will allow multiple sub-sets and there are tools to explore transactions. The BTC history appears with time stamps, so BTC transactions are readily identifiable.

Further, it is possible to have a bitcoin address in the name of a company, as well as individuals. At face value, bitcoin can be used, no matter whether the SMSF has a corporate trustee or individual trustees. From an audit perspective, it is critical that any such assets are held in correct names.

Another important factor concerns who has authority to transact on the bitcoin account? This is an extremely important question when talking about long-term retirement savings in an SMSF environment.

Contributions paid with bitcoin

At this stage it would be extremely difficult to say that bitcoin is a ‘currency’ that would enable employers or members to make contributions. However, it seems possible that it may be used, indirectly, to acquire assets such as commercial real estate that may be later contributed to an SMSF. For now it seems prudent to maintain contributions in the form of Australian dollars.

Auditor reservations

Most SMSF auditors work to ensure investments and transactions carefully comply with the Superannuation Industry (Supervision) Act and regulations, especially provisions such as the sole purpose test. Why would a fund choose to use bitcoins and would it draw extra attention to the fund? Certainly it would appear there would be extra costs auditing the fund.

Whilst bitcoin appears to have potential as an SMSF asset, any SMSF must factor in an appropriate level of risk when auditing funds that carry bitcoin as an investment and whether the trustees have adequately factored this into their investment strategy, including their proper consideration of liquidity, risk and diversification.

Further developments

It is said there are bitcoin ATMs around the world, including some in Sydney and at least one in Melbourne. The ATM scans the code of your bitcoin and dispenses Australian dollars.

The future

It is noted in Australia there are some investors who are said to be keen to explore the potential of using bitcoin in association with their SMSFs, so this will happen, if it has not already done so. Auditors may need to amend their work flow processes and also their fee estimates.

For most, bitcoin is still a great unknown, but SMSF auditors will need to quickly acquire an appropriate understanding so that they are fully capable of auditing any SMSF that chooses to hold bitcoin as an investment. Without proper care, the bitcoin experience could turn ugly for retirement savings in self-managed super.

By David Saul, founder, Saul SMSF