How a simple accounting principle in combination with the blockchain could solve the global tax-evasion crisis
“A deal is only a good deal when you convince the Internal Revenue Service that it wasn’t a good deal.” I don’t know who said that but I put it in quotes so it wasn’t me, dear tax authorities. But seriously, this quote contains a lesson. To know if you made a good deal, you need to keep a book. And if you want to evade taxes you need a second book, cooked beyond recognition.
This is no theoretical thought. According to estimates, governments lose USD 3.1 trillionannually due to tax fraud. That money could finance healthcare, education, culture, and security. Technology is here to save us. Here is how:
Did you also watch your mum keep a ledger with the household expenses, written in neat columns? Including the most important column, the one with your pocket money? In doing so, your mum followed a tradition that goes back 5,000 years, passing by the Romans, the Egyptians well down to the Sumerians. The method that ledger used is called single entry accounting: one line for every expense.
As it kept our household afloat, it also kept empires in balance. A feat that became very difficult with increasingly complex economies. There is a problem with using single lines. While you know where the money went, you don’t know where it came from. It could be a bank transaction, a cash deposit, a PayPal or even a Bitcoin account. With single entry accounting, you can’t follow the money.
That became possible with the invention of double entry accounting. The kind of bookkeeping we still use today was established all the way back in the 14th century. Nations came and went, languages changed but our economy still runs on the same principles.
A double entry ledger adds a line that specifies where the money is coming from. It looks like this:
USD 15,000 from customer 1 to a bank account
USD 5,000 from bank account to a tax attorney
It thus gives us the information that the bank account now holds USD 10,000 and the tax attorney holds 5,000. We can now look at the bank account and compare it with the ledger. If the numbers are different, then we have a problem with the book.
Double entry bookkeeping gave us banking, accounting, credits, and lending. It led to the Fugger banking empire, the East India Trading Company and modern global corporations like General Motors and Apple. The credit system financed inventions like artificial fertilizers, the steam machine, the computer and the Internet. Let’s say it together: Thank you, double entry accounting!
Thank you and goodbye. We had a great time but yours is over. Cooking the books has become an art of illusion. The best corporations make profits do a David Copperfield and vanish in front of the authorities.
Show me the money!
Take double entry accounting and put the record on the blockchain. Voila, you’ve got yourself triple entry accounting (TEA). We mutter the blockchain mantra: immutable, incorruptible. Why is it so easy to manipulate your own accounting? Because it is neither linked with the corresponding invoices of your customers nor with those of your supplier. Blimey, you still can’t follow the money.
Put a transaction between two entities on the blockchain and you can. The money you get from your customer is on the blockchain. You pass the money on to your supplier for the next order of materials. The supplier passes the money on to his contractors. Those pay the rent for their office with it. When we store every record on the blockchain, we get perfect traceability – the money is connected by links in a chain.
The advantage? It is so much harder to manipulate when your transactions are a link in a long chain. If you break the link it becomes visible. If you can’t break the link, then the tax money is going into the authorities’ coffers instead of an account in Switzerland, Cyprus or the Caimans.
In a next article, we will discuss how to make sense of business data that comes in 5,000 languages.
Also published on Medium.