The Taxman and Bitcoin

Questions about tax are often asked by cryptocurrency and bitcoin uses. While this is a country by country debate the article below highlights some important facts all us crypto uses should know. The article is from yahoo finance and first appeared here 

When you file your taxes this year, your accountant might ask if you own any bitcoin.

The popular digital currency recently hit an all-time high of $1,327 per coin, and while there arguably still hasn’t been a “killer app” (a mainstream purpose for a layperson to use bitcoin), its main use right now is as a speculative investment—and it has been a good investment.

And if you’ve bought something using bitcoin, or sold something for bitcoin, or traded bitcoin for fiat currency, you should consider making that clear on your taxes.

“This is the first year I’ve asked about it,” says Mark Stafford, a CPA in Maryland. “I had one client try to be a miner last year and I realized it was possible that clients were involved and might not think to tell me.” (Indeed, the IRS has revealed that fewer than 1,000 people disclosed bitcoin on their taxes from 2013 to 2015.)

Believe it or not, the IRS posted official language on digital currency back in 2014; it considers bitcoin to be property. “For federal tax purposes,” the IRS says in no uncertain terms, “virtual currency is treated as property. General tax principles applicable to property transactions apply to transactions using virtual currency.”

If you’ve bought bitcoin simply to hold it as a speculative investment, you don’t need to disclose anything. But income from the sale of bitcoin would be taxed as capital gains, based on the value of bitcoin at the time you sold it. The same goes for if you receive bitcoin as payment, the IRS says, “A taxpayer who receives virtual currency as payment for goods or services must, in computing gross income, include the fair market value of the virtual currency, measured in US dollars.”

There were a number of ways the IRS could have classified bitcoin. It could have labeled it as currency, or a commodity, or a security or debt instrument, as corporate tax attorney Bob Derber has written at the web site of digital currency research group Coin Center. “Bitcoin has qualities resembling all of these property forms, yet it does not neatly fit any of them,” Derber wrote. “Had the IRS treated bitcoin as a currency, special tax rules would have applied to its use and ownership.”

By labeling it property, a bitcoin-for-goods transaction is almost like bartering. If you sell your car for bitcoin, the IRS is saying, it’s property for property, rather than currency for property, which is treated differently.

By not labeling it a currency, bitcoin does not generate a foreign currency gain or loss for tax purposes. That’s surprising, since so much bitcoin is purchased from international exchanges. On the other hand, you can’t physically hold bitcoins, so as Derber puts it, “We’re still not exactly sure how to define where the bitcoin exists.”

Labeling it as property may not be a fully adequate description of what bitcoin is and does, but for now, Derber tells Yahoo Finance, “It’s the best one can do. Bitcoin is just a whole new paradigm, and a structure for regulation and taxation doesn’t necessarily exist. What it really comes down to is, Who knows what it is yet?”

Bitcoin is still a nascent technology, still misunderstood by many, and still something regulators are puzzling over. In fact, last year the IRS demanded user transaction records from Coinbase, the leading US bitcoin wallet provider, from 2013 to 2015. The investigation is ongoing, but has so far yielded the fact that only 800 people, over those three years, filed a Form 8949 to disclose property “related to bitcoin.”

Form 8949 is for reporting sales of capital assets. It has no language specific to bitcoin, but it follows that if bitcoin is property, that’s the form you’d use to disclose gains from receiving or selling it.

The fact that the IRS even has official language on bitcoin is a sign that it recognizes bitcoin has staying power.

No one really knows exactly how many people own bitcoin. There are 7 million unique addresses (or payment destinations) that own more than $1 in bitcoin, but many people have multiple addresses, so most estimates suggest that it’s only between 2 million and 4 million unique holders. When the SEC harshly rejected a proposal from the Winklevoss brothers for a bitcoin ETF, it did say that fewer than 1,000 people own more than 50% of all bitcoins.

Clearly, the 800 people who disclosed bitcoin gains from 2013 to 2015 represent just a fraction of all bitcoin owners. That might make you think that even if you have had gains from bitcoin, you don’t need to bother disclosing it on your taxes. And you might be right—unless the IRS decides to more actively pursue taxation of the cryptocurrency.

The best course, says Derber, who is also a (non-active) CPA, is to disclose it. And if your personal tax professional didn’t ask this year, they will likely start asking soon enough.

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2 Thoughts to “The Taxman and Bitcoin”

  1. James

    Can anyone know who has what wallet?

    1. JDYSolutions

      There is no way for the person behind a particular wallet to be identified. That is one of the great things about bitcoin

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