IRS Ramps Up Cryptocurrency Reporting Compliance in 2021 by Lewis Taub, CPA
Posted on July 29, 2021
According to the U.S. Treasury, the cryptocurrency market capitalization in April 2021 reached more than $2 trillion. Today, there are approximately 4,000 virtual currencies, such as Bitcoin (BTC), Etherium (ETH), Tether (USDT) and Dogecoin (DOGE), stored and traded on more than 8,600 cryptocurrency exchanges around the world, including Kraken and the largest exchange, Coinbase, which became a public company this year. With this increasing popularity and use of digital assets, it is no surprise that the IRS is taking aggressive action to track down users and their related tax liabilities.
In 2014, the IRS released initial guidance explaining that it would treat cryptocurrency as property and impose relevant federal taxes on its use, including sales and exchanges for other types of property, payments for goods and services, and holding virtual currency as an investment. As an example, a taxpayer who receives cryptocurrency as payment in exchange for good or services would need to report and pay ordinary income tax on the fair market value of those tokens in the year of receipt. Taxpayers who hold cryptocurrency as an investment owe capital gains tax on the excess amount of the tokens’ fair market value on the date of sale above the original tax basis. However, the anonymity offered by these transactions and general lack of governmental oversight has resulted in a tremendous amount of underreporting of cryptocurrency transactions on tax returns.
It was not until 2019 that the IRS first addressed cryptocurrency reporting on taxpayers’ federal tax returns with the question: “At any time during 2019, did you receive, sell, send, exchange or otherwise acquire any financial interest in any virtual currency?” To further improve cryptocurrency tax-reporting compliance, the agency moved the question to the top of the first page of taxpayer’s 2020 Form 1040, Individual’s Federal Income Tax Return.
Despite efforts to improve taxpayer compliance, the U.S. Treasury estimates that there is a multi-billion-dollar difference between the taxes owed on cryptocurrency and the actually amount of taxes paid to the government.
In 2017, the IRS issued John Doe summonses to Coinbase’s customers, advising them to come clean about their unpaid taxes on cryptocurrency transactions or risk significant penalties of as much as 75 percent of the unstated tax liabilities and criminal charges. Those efforts continue into 2021 with the IRS scoring a recent federal court victory that requires Kraken and a now defunct cryptocurrency exchange to share the records of their 6 million customers with more than $20,000 in annual transactions during the years 2016 through 2020.
Earlier this year, after President Biden recommended increasing IRS funding to improve tax-compliance enforcement, the IRS Criminal Investigation team unveiled “Operation Hidden Treasure” with a dedicated team of cryptocurrency-trained investigators focusing on weeding out tax evasion among virtual currency users. Similarly, the IRS in May announced its partnership with a leading manufacturer of cryptocurrency-reporting software to help examiners review taxpayers’ returns and identify all unreported cryptocurrency gains and losses. More recently, the Treasury Department proposed that it will require any transfers of cryptocurrency with a fair market value of more than $10,000 to be reported to the IRS. These actions are similar to the IRS’s ongoing pursuit of tracking down all taxpayers’ foreign financial accounts and requiring an annual filing of a Report of Foreign Bank and Financial Accounts (FBAR) when the aggregate value of those accounts exceed $10,000 at any time during the calendar year.
In the same way that taxpayers often find it difficult to navigate complex tax laws, they are finding similar challenges understanding the nuances of transactions with cryptocurrency and the risks they face with non-compliance. As U.S. and foreign governments rush to regulate the cryptocurrency craze and grab their share of taxpayers’ market gains, investors should err on the side of caution and prepare to report all of their virtual currency transactions to taxing authorities. It is far better to be forthright and self-report than it is to be exposed by a government-authorized release of investor information.
The advisors and accountants with Berkowitz Pollack Brant work with U.S. and foreign individuals and business to help them comply with tax laws while maximizing tax efficiency across borders.
About the Author: Lewis Taub, CPA, is a director of Tax Services with Berkowitz Pollack Brant Advisors + CPAs, where he works with entrepreneurial business, multinational and multi-state corporations on tax planning and compliance strategies, including those related to mergers and acquisitions, basis issues and debt restructuring. He can be reached at the CPA firm’s New York City office (646) 213-7600 or firstname.lastname@example.org.