No matter how untraceable digital transactions may seem, there is no hiding cryptocurrency under the mattress. Virtual currencies like Bitcoin, Litecoin, and XRP are digital assets that cannot be hidden or concealed. Even though virtual currency is often anonymously held and transacted, it is traceable, and the IRS will go to great lengths to find out if taxpayers are reporting their cryptocurrency transactions appropriately.
Where the IRS Is Looking
In 2016, the IRS issued a summons on Coinbase, a virtual currency exchange company, requesting details about certain transactions that occurred from 2013 to 2015. Late last year, a Federal district court enforced the summons and required Coinbase to turn over this information to the IRS. The information they requested was far-reaching — it included taxpayer identification numbers, names, addresses, birthdates, and account details for all accounts that reported more than a specific dollar value of activity. Once Coinbase produces this information, the IRS will filter through these transactions to determine which U.S. taxpayers are improperly reporting their cryptocurrency transactions.
Implications of this Court Order
The IRS is sending a clear message: it expects individuals who engage in cryptocurrency transactions to know the regulations and meet their tax obligations. To help taxpayers learn about their responsibilities, the IRS created an FAQ notice that details when and how to report cryptocurrency transactions.
An essential thing taxpayers can learn from this notice is that buying or selling a virtual currency is considered a property transaction, which can result in gains or losses similar to those realized when selling stocks, bonds, or even pieces of artwork.
Classifying cryptocurrency as property is groundbreaking — it means that almost any use of virtual currency implies a tax obligation. Selling virtual currency could result in a gain or loss, of course, but using virtual currency to purchase something, or pay an employee, might also result in a gain or loss.
EXAMPLE: A taxpayer buys one unit of cryptocurrency for $400. A few months later, the taxpayer purchases a new TV with their unit of virtual currency, which is now valued at $550 — the same cost as the new TV. The taxpayer has realized a $150 short-term capital gain on that investment.
Gains and losses are determined based on the cost basis of the investment compared to the sales price, and the taxpayer has the burden of proving their cost basis for each unit of cryptocurrency that they own.
Make the Flip
A centralized regulatory body does not control virtual currency, so taxing authorities are concerned that cryptocurrency transactions could be our generation’s next big tax haven. If you own any form of cryptocurrency or have bought and sold it in the past, now is the time for you to take action. Dig through your virtual couch cushions, flip over that digital mattress, and start reporting all of the cryptocurrency assets that you own. Contact a CRI CPA to help you get started.