Know These Red Flags Before Investing in a New Cryptocurrency

The cryptocurrency market has experienced exponential growth in recent years, attracting both seasoned investors and curious newcomers. While many legitimate projects have emerged, the space has experienced scams and poorly designed tokens, causing devastating financial losses for inexperienced investors – the most recent being the $HAWK memecoin promoted by overnight celebrity influencer Hailey Welch, aka the “Hawk Tuah Girl.”

One of the first steps you must take before investing in crypto, however, is knowing the corresponding tax obligations. The only safe way to do this is to consult a tax lawyer specializing in crypto taxation, like the experts at CryptoTaxLawyer.com. The reason is that, in Canada, for example, the Canada Revenue Agency (CRA) classifies returns from crypto investments as either capital gains or business income, even if you’re not running a business. If you are considered to be operating a business, how you report these investments and returns depends on your crypto activities and the type of investing you do. Simply put, you need the legal opinion of a specialist lawyer to protect you from tax penalties and audits and to help you identify potential risks before investing.

On that note, here are key red flags to watch out for before committing your hard-earned money to a new crypto project.

Problematic Tokenomics and Insider Control

Tokenomics—the economic design and distribution of a cryptocurrency—plays a crucial role in a project’s viability. Projects with poorly designed tokenomics, such as excessive token supply, unchecked inflation, or vague allocation plans, can lead to devaluation and instability. Insider control is also a significant red flag. If a large percentage of tokens are held by the founding team or early investors, there is a risk of market manipulation or sudden sell-offs that can crash the token’s value.

Both of these issues were at play in the “Hawk” digital coin: 96% of tokens were controlled by a cluster of interconnected wallets, and 17% of tokens were presold to “investors” as “Strategic Allocation” without a lock-up period.

The result: presale investors dumped their tokens when it hit a $490m market cap shortly after launch, and, hours later, the coin lost more than 95% of its artificially inflated value, causing post-launch investors to lose their money less than 24 hours after investing.

The takeaway: always look for projects with transparent token allocation and mechanisms to prevent concentration of power, such as vesting schedules and decentralized governance.

Absence of a Comprehensive Whitepaper

A well-crafted whitepaper is a cornerstone of any legitimate cryptocurrency project. This document should detail the project’s goals, technology, roadmap, tokenomics, and potential challenges. If a project lacks a whitepaper or provides one with minimal information, it’s a glaring red flag. You should also be wary of overly technical jargon that seems designed to confuse rather than inform.

Lack of a Clear Use Case & Over-Reliance on Hype

A legitimate cryptocurrency should serve a specific purpose or solve a tangible problem. If the project’s whitepaper lacks a clear explanation of its utility, it may be a sign that the developers are more interested in raising money than building a sustainable product. Tokens that promise high returns without offering a concrete value proposition are often designed to attract speculative investors rather than create lasting value.

Also, while marketing is important, projects that rely heavily on celebrity endorsements, paid promotions, or social media hype rather than demonstrating solid technology and use cases are often suspect.

Unverified Team and Anonymity

Transparency about the development team’s credentials and experience is a hallmark of credible cryptocurrency projects. If the team behind a new cryptocurrency is anonymous or their qualifications are unverifiable, exercise caution. Anonymous developers can disappear with investors’ funds without accountability. Always perform thorough background checks on the team members and advisory board. Verify their presence on professional platforms like LinkedIn and search for news articles about their past involvement in successful projects.

Overpromising Returns

Be cautious of projects that guarantee fixed or exceptionally high returns. In most cases, these are unsustainable promises that are either mathematically impossible or signs of a scam. The cryptocurrency market is inherently volatile, and no legitimate project can promise guaranteed profits.

Poorly Designed or Copycat Websites

A cryptocurrency project’s website is often its first point of contact with investors. A poorly designed website, riddled with grammatical errors or broken links, is a clear indication of a lack of professionalism. Additionally, watch out for projects that closely mimic the branding and design of successful cryptocurrencies. These “copycat” projects aim to deceive investors into thinking they are affiliated with reputable platforms.

Insufficient Regulation or Compliance

Regulation in the cryptocurrency space is evolving, but legitimate projects typically make efforts to comply with existing laws in their operating jurisdictions. A lack of transparency about regulatory compliance or an overt disregard for legal obligations should raise concerns.

Unrealistic Roadmap

A credible project should have a realistic and achievable roadmap. Be wary of projects that promise rapid development timelines or large-scale adoption within an improbably short period. Overly ambitious roadmaps often indicate a lack of understanding or a deliberate attempt to mislead investors.

In Short

Investing in cryptocurrency can be a lucrative opportunity, but it requires careful research and due diligence. Recognizing red flags like a lack of transparency, unrealistic promises, and poor regulatory compliance can help protect your investments. As the market evolves, being vigilant about your tax obligations and the projects you support is essential to avoid costly mistakes.