[Opinion] Between Innovation and Regulation of the 'Securities Token Institutionalization'

As banks that purchased large amounts of long-term bonds such as government bonds during the prolonged low-interest-rate era have seen the value of their holdings plummet due to a sharp rise in interest rates, massive book losses have come to light. To make matters worse, amid financial market instability, a bank run occurred in the United States, causing the alternative asset cryptocurrency market to stir again, and security tokens (STOs) have become a major issue. In South Korea, the Financial Services Commission announced on the 19th of last month at the '6th Financial Regulatory Innovation Meeting' that it would allow and institutionalize the issuance of security tokens.

Cryptocurrency exchanges have often issued their own coins under the pretext of facilitating investor convenience through liquidity provision and staking (the act of depositing held cryptocurrencies). Investors holding these exchange coins could receive rewards similar to bank interest income. The problem is that these coins acquire the characteristics of securities that represent fractional ownership of the exchange's value. From the exchange's perspective, the issue of security tokens is unwelcome. If the coins are classified as securities, they fall under the Capital Markets Act and are subject to regulatory oversight based on that law. On the other hand, from the investor's standpoint, it is a welcome development as it provides a legal basis to regulate some exchanges' previously opaque practices.

If the system operates well, security tokens present an opportunity to leverage the two advantages of blockchain's new and diverse financial technologies and the long-accumulated securities market regulations. However, if mishandled, it becomes a case of chasing two rabbits at once. The invisible struggle between regulatory authorities striving to ensure financial market stability and market participants attempting to evade regulations is nothing new.

Given the rapid growth and changes in the cryptocurrency market, it is necessary to review whether the regulatory authorities are adequately prepared. In the United States, two independent agencies, the SEC (Securities and Exchange Commission) and the CFTC (Commodity Futures Trading Commission), competitively work to enhance transparency and stabilize the cryptocurrency market. In South Korea, the Securities and Futures Commission under the Financial Services Commission should take the lead in regulating the virtual asset market. However, it is questionable whether there are sufficient personnel and infrastructure for this.

Moreover, the tax system in South Korea remains unclear in many respects. In the United States, cryptocurrency mining and staking rewards are taxed at the earned income tax rate based on the market value at the time of acquisition, and capital gains tax is paid on subsequent transfers. Conversely, losses can be deducted up to an annual limit of $3,000, with no restrictions on the carryover period for loss deductions. Many cases have seen exchange tokens sharply rise in price initially after issuance and then plummet during the staking period. Regardless of transparency debates, considering such market behavior, the loss deduction system is even more important.

South Korea plans to implement the financial investment income tax system in 2025 after a long grace period. The problem is that it is unclear whether income from cryptocurrency mining and staking will be taxed at the earned income tax rate or combined with financial income or other unearned income under this system. Additionally, the loss deduction carryover period is limited to only five years. In this case, even if significant losses occur from virtual asset investments, there may be limits to fully deducting them.

The growth and institutionalization of the security token market come with many expectations and concerns. Considering the recent financial market instability, the current moment calls for consensus between market participants and regulatory authorities rather than mutual checks and balances.

Professor Kim Gyu-il, Michigan State University