Crypto Investment Funds and the Limits of US Tax Law: Functional Classification and Global Regulatory Convergence

The current article examines the existing gap between the economic substance of cryptocurrencies and their classification under the US tax law for which the Internal Revenue Service (IRS) has maintained a ‘property’ baseline for these digital assets since 2014. This classification creates significant distortions for pooled investment vehicles whereby outcomes often depend more on the legal ‘wrapper’ than on the underlying asset’s economic function. These distortions lead to ‘wrapper engineering’ where funds prioritize tax efficiency over investor protection and optimal risk-return profiles. The article proposes a functional classification approach to alleviate this via three primary contributions: a Functional Exposure Test for registered investment companies (RICs); a Four-Factor Framework for counting spot-token income as ‘commodities’; and a Reporting Interoperability Solution harmonizing domestic US reporting with international standards (such as the Crypto-Asset Reporting Framework (CARF) and Markets in Crypto-asset (MiCA)) to reduce compliance friction and leverage global market-integrity signals. By shifting toward objective market facts and existing administrative infrastructure, it is argued in the article that a more neutral, administrable, and internationally aware tax regime for the digital asset era is needed.