IRS Cracking Down On Cryptocurrency

When an industry’s leading lights achieve a five-digit percentage single-year gain, investors enjoying gains will be justifiably ecstatic; others will take notice and dive in. That’s the sort of almost Wild West environment enjoyed by cryptocurrencies such as Bitcoin, the best known of the group, and a number of others.

Peering over those investors’ shoulders? The Internal Revenue Service. And the Tax Cuts and Jobs Act of 2017 gives the IRS sharper teeth with which to bite taxpayers who up to now have used confusion around cryptocurrencies to reap as-yet untaxed benefits.

Wikipedia offers up as good a definition of cryptocurrency as any:

“A cryptocurrency (or crypto currency) is a digital asset designed to work as a medium of exchange that uses cryptography to secure its transactions, to control the creation of additional units, and to verify the transfer of assets. Cryptocurrencies are a type of digital currencies, alternative currencies and virtual currencies. Cryptocurrencies use decentralized control as opposed to centralized electronic money and central banking systems.”

As markets and investors have either jumped in or watched in amazement, cryptocurrencies such as Bitcoin and Coinbase have rocketed in value as if they were shot into orbit from Cape Canaveral.

Whatever one thinks or feels about cryptocurrencies – whether they’re bizarrely overvalued or the wave of the future – at present some of them are earning people real money. At close-of-business on April 13, a single Bitcoin was worth about $8,190. In two years it grew nearly 650% in value. In 2009, Bitcoin had zero value. In 2010, its highest price was 39 cents.

According to Time’s “Money” webpage, in 2017 the top 10-performing cryptocurrencies posted average price gains of 14,000%. Yet, it said, “few taxpayers appear to be reporting their crypto trades.”

General IRS cryptocurrency tax guidance was issued in 2014, which says:

• Wages paid to employees using virtual currency are taxable to the employee, must be reported by an employer on a Form W-2, and are subject to federal income tax withholding and payroll taxes.

• Payments using virtual currency made to independent contractors and other service providers are taxable and self-employment tax rules generally apply.  Normally, payers must issue Form 1099.

• The character of gain or loss from the sale or exchange of virtual currency depends on whether the virtual currency is a capital asset in the hands of the taxpayer.

• A payment made using virtual currency is subject to information reporting to the same extent as any other payment made in property.       

However, the number of taxpayers reporting cryptocurrency gains doesn’t match up with the amount of money being made. As government abhors a tax vacuum, the TCJA started to address the issue. A seemingly small language adjustment is the reason. The exemption was eliminated in many cases for “like kind exchanges,” which previously enabled some people to avoid tax liability when they traded one type of asset for a similar one. In this case, cryptocurrencies.

Still, the IRS even now has yet to issue detailed, guidance to tax preparers or the public on how to treat cryptocurrency gains. It seems the IRS is in the same position in which many find themselves concerning cryptocurrencies, trying to figure it all out.

The IRS has established a team within the agency to focus on this area. The TCJA gives it new force. At this point, to play it safe, it’s wise for those enjoying cryptocurrency investment gains to pay the taxes on their gains in keeping with present law and to keep detailed records of their transactions.

The U.S. government needs money. Cryptocurrencies are making an increasing number of people a lot of money. On whom do you think the IRS is likely to come calling, sooner, or later?