Is it just a matter of time before the US government adopts cryptocurrency?

Colorado will accept cryptocurrency for tax payments. Some experts believe it’s only a matter of time before other U.S. states follow suit.

Colorado Governor Jared Polis announced in February that the state government plans to allow residents to pay taxes in cryptocurrency as early as the summer of 2022. In an interview, Polis said that cryptocurrency holders in Colorado can choose to pay taxes in digital currency, and once the payment is received through an unnamed intermediary, the state will convert the funds back to fiat currency.

Polis added that the state could accept cryptocurrency payments within months after launching this summer. The governor said at the time that he was “not at all concerned” about the potential volatility of cryptocurrencies like Bitcoin, as the state does not plan to hold the tokens long-term.

Shortly after taking office in 2019, Polis signed the Colorado Digital Token Act into law, which seeks to exempt tokens with a “primary consumer purpose” from some securities regulations. The governor also said that state Senator Chris Hansen was working on a bill that would “allow state-created digital tokens to be used for state reserve purposes.”

Sen. Hansen said in an interview that the bill "introduces additional security, saves costs, diversifies the investor base and has the potential to reduce the interest rates paid by the state."

“We need to ensure every Coloradan has a fair chance to participate and benefit from investments in our state,” Hansen said. “By expanding beyond institutional investors and commercial banks, we are inviting millions of Coloradans to participate in the financing of new capital assets.”

The senator said he looks forward to seeing how the state will help "communities recover from the pandemic, improve their quality of life, and address the economic inequities that hold back ordinary people."

Brian Pasfield, CTO of decentralized lending platform Fringe Finance, said cryptocurrencies are being legalized by initiatives such as Colorado.

“To see the government acknowledge cryptocurrencies as a viable medium for tax payments speaks volumes about the change in mentality in how we view these currencies,” Pasfield said.

Pasfield added that accepting cryptocurrencies for tax payments would “inevitably result in governments having to manage and hold these currencies in their treasuries,” which could help reduce the volatility of crypto assets.

Russel Starr, CEO of DeFi Technologies, said he believes government treasuries should be denominated in the currency used to pay for services, meaning if employees are to be paid in U.S. dollars, their crypto income should be converted into dollars.

However, Starr said any entity should “have diversified investment holdings,” which should “absolutely include cryptocurrencies and other decentralized financial products.”

According to him, “the growth potential of cryptocurrencies will make them an attractive asset in any carefully balanced portfolio.” This growth potential may also mean that it will be a long process for governments to accept cryptocurrencies for tax payments.

'It's only a matter of time' before government adopts

In February, California Senator Sydney Kamlager introduced a bill that would authorize state agencies to accept cryptocurrencies as a form of payment for providing government services.

Back in 2018, Ohio became the first U.S. state to accept Bitcoin for tax payments, but abandoned its crypto tax plans in 2019 citing legal issues.

Jaideep Singh, co-founder and CEO of AI tax engine company FlyFin, said that cryptocurrencies are slowly being regulated. According to Singh, crypto regulation started with reporting crypto transactions for U.S. tax filers, and then government agencies moved to tracking cryptocurrency transactions.

Tracking cryptocurrency transactions reduces their anonymity and “furthers a trend we will see in the coming years” involving greater transparency, tracking technology, and increased regulatory demands for cryptocurrencies: “Governments have a responsibility to ensure their citizens are not defrauded, criminal activity is curbed, and taxes are not circumvented. Therefore, it was only a matter of time before this new development in Colorado came along.”

Singh believes that the United States is leading the world in accepting cryptocurrencies, with other countries not far behind because “we will definitely see central banks adopt blockchain and other crypto technologies.”

Ben Weiss, COO of bitcoin ATM operator CoinFlip, said he believes Colorado’s move “could have a ripple effect with other states in the country following suit.” To Weiss, it could be “an important step in getting consumers to recognize crypto as a legitimate form of currency.”

Weiss added that the move could further promote the use of cryptocurrencies in government services: “This advancement may also encourage the implementation of crypto transactions elsewhere across the state, such as at local DMVs [Department of Motor Vehicles]. This is an excellent opportunity for Colorado to build on its reputation as a tech hub and signal its place at the forefront of the digital revolution.”

Weiss said that U.S. states could consider holding crypto assets because of their potential for appreciation, as the extra money generated through it could be “used to improve roads, clean up parks, and help fund other underfunded areas of local government.”

Patrick White, co-founder and CEO of Bitwave, a provider of tax and accounting software for crypto assets, said in an interview that he would like to see states such as Colorado and California begin to accept cryptocurrency for taxation.

White added that using crypto assets requires “muscle memory: it requires knowing how to convert crypto to fiat, learning about taxes and accounting, figuring out custody, and so on.”

He added: “This is a huge step forward for the industry, where multiple states have to really understand cryptocurrencies, come up with rules for pricing digital assets for actual tax purposes, and so on.”

Weiss hopes the U.S. federal government will follow suit and that government agencies will eventually "keep some of their assets on their balance sheets rather than sell them outright."

Even if governments do not keep crypto assets on their balance sheets, the demand for them to accept crypto payments could surge. One way that fiat currency demand is maintained is through its use in tax payments: people need to hold fiat currency so that they can meet their tax obligations at the end of the month or year. If crypto is to be used to pay taxes, the demand for holding fiat currency is greatly affected, as it becomes increasingly easier to use crypto debit cards to pay for goods and services.