:max_bytes(150000):strip_icc()/Cryptocurrencyovertradingapp-3b7855f531754d128fed81555549a552.jpg "The Myth of “Reserve Evidence” in Crypto Accounting")
In 2022, with the collapse of cryptocurrencies and the collapse of giant companies like FTX, the digital asset industry began to rely on “proof of reserve” as a means of internal accounting and customer authentication. Walk.
When FTX was accused of misusing user funds, large exchanges like Binance were quick to reassure users that their deposit requests were trustworthy, and many asset-based crypto companies followed their lead. However, backup validation is not the panacea offered by the industry. From an accounting perspective, such benchmarks are completely inadequate and the industry's reliance on them has created a dangerous situation for the public and accounting and audit firms.
Understand reserve tests and their limitations
Proof of reserve or PoR refers to a verification process that ensures that the assets held by a cryptocurrency trading platform or company are identical to the holdings provided to its customers at a particular time. (It uses technical cryptographic calculations to verify the existence of an asset without disclosing the details of the asset.)
Proponents argue that PoR is essential to ensuring the strength and stability of the cryptocurrency community. They say the transparency offered by this system gives investors confidence that their assets are safe if they are with a creditworthy and stable institution.
The reality is that POR is a risky and problematic system that provides little benefit from an accounting, auditing or legal perspective. When a company applies for a PoR, the potential liabilities, risky process, and general lack of security of many crypto companies are ignored or put aside entirely. Likewise, this is only a brief overview of certain companies and many financial structures, including automatic repo operations (such as that of Lehman Brothers). With digital assets, even one day seems long. It is on this framework that the risks expected by the industry are based.
Additionally, consumers don't seem to realize that accountants, certifiers and auditors often reject financial information. In fact, accountants and audit firms must be wary of misinformation. Many digital asset companies market their relationships as accounting firms that have auditors “sign off” on their books, even though the work does not fit that definition.
Recently, the SEC warned accounting firms working with cryptocurrency companies to be careful when submitting their PoR reports. The SEC's chief accountant, Paul Munter, said this year that "evidence from monitoring reports is essentially limited" and that "clients should exercise extreme caution before concluding that there is sufficient activity to meet their obligations."
The path to follow
The way forward is clear for the digital assets sector. Rather than relying on PoR, take a holistic and transparent approach to financial transparency and factor chain responsibility and risk. This involves working with experienced accountants, adapting traditional financial and accounting methods to the unique structure of digital assets, informing users of the limitations of current systems, and working to report comprehensive, ongoing, and autonomous financial audits.
This in-depth review should allow companies to examine how digital asset companies work from top to bottom. All responsibilities, administration, processes and data related to the financial side of the business must fall within the scope of comprehensive coverage.
Accountants and auditors, in turn, must proactively describe their relationships with digital asset companies based on PoR. Clarifying the scope and nature of their work can avoid misunderstandings and protect their business in the event of further disruption in this dynamic industry.
The digital asset space is full of potential. However, to realize this potential requires open-mindedness, honesty and commitment to development. It is time to move to a comprehensive and transparent audit and financial assurance phase that protects the professionalism and interests of investors, markets, consumers and society.