The U.S. Treasury Department is looking to boost tax compliance on virtual currency by imposing a new reporting requirement on large cryptocurrency transactions...
The U.S. Treasury Department is looking to boost tax compliance on virtual currency by imposing a new reporting requirement on large cryptocurrency transactions. On May 20, 2021, the Treasury released a report outlining the Biden Administration’s proposed tax compliance measures, which includes requiring that crypto transactions exceeding $10,000 be reported to the Internal Revenue Service (IRS).
IRS Tax Treatment of Cryptocurrency
The IRS first addressed virtual currency in 2014, advising that the sale or exchange of convertible virtual currency, or the use of convertible virtual currency to pay for goods or services in a real-world economy transaction, has tax consequences that may result in a tax liability. The IRS also clarified that, for federal tax purposes, virtual currency is treated as property rather than currency.
IRS Notice 2014-21 provides guidance for individuals and businesses on the tax treatment of transactions using virtual currencies. Among other issues addressed, the IRS advised that 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 U.S. dollars, as of the date that the virtual currency was received. It also clarified that if virtual currency is used to pay for an item or otherwise exchanged for property, the taxpayer has a taxable gain if the fair market value of property received in exchange for virtual currency exceeds the taxpayer’s adjusted basis for the virtual currency. In addition, a taxpayer who “mines” virtual currency (for example, uses computer resources to validate Bitcoin transactions and maintain the public Bitcoin transaction ledger) realizes gross income upon receipt of the virtual currency resulting from those activities.
With regard to reporting, IRS Notice 2014-21 advised that:
- A payment made using virtual currency is subject to information reporting to the same extent as any other payment made in property.
- Payments using virtual currency made to independent contractors and other service providers are taxable, and self-employment tax rules generally apply.
- 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.
- Certain third parties who settle payments made in virtual currency on behalf of merchants that accept virtual currency from their customers are required to report payments to those merchants on Form 1099-K, Payment Card, and Third Party Network Transactions.
Since 2014, the IRS has gradually increased enforcement of tax non-compliance involving virtual currency. In 2018, the agency launched a Virtual Currency Compliance campaign, which sought to address noncompliance related to the use of virtual currency through both outreach and examinations. In 2019, the IRS began sending letters to taxpayers with virtual currency transactions that potentially failed to report income and pay the resulting tax from virtual currency transactions or did not report their transactions properly. In 2020, the IRS added a new section to Form 1040 that asks taxpayers to report capital gains and losses from crypto transactions.
New Reporting Obligations for Crypto Transactions
The Treasury Department’s “American Families Plan Tax Compliance Agenda” outlines tax compliance initiatives that seek to close the “tax gap,” which refers to the difference between taxes owed to the government and actually paid. One of the proposals seeks to leverage the information that financial institutions already know about the accounts that they house by requiring financial institutions to add information about total account outflows and inflows to existing reporting on bank accounts.
Under the proposal, financial institutions, including “cryptoasset exchange accounts and payment service accounts that accept cryptocurrencies,” would be required to submit third-party annual reports to the IRS of all “gross inflows and outflows” from business and personal accounts. The proposal would also require businesses to file a report with the IRS when they receive a cryptocurrency payment with a fair market value of more than $10,000, much like is currently required for cash transactions.
The Biden Administration’s tax initiative reflects the fact that cryptocurrency transactions are significantly under-reported. “Cryptocurrency already poses a significant detection problem by facilitating illegal activity broadly including tax evasion,” the Treasury report states. “This is why the President’s proposal includes additional resources for the IRS to address the growth of cryptoassets,” the report continues. “Within the context of the new financial account reporting regime, cryptocurrencies and cryptoasset exchange accounts and payment service accounts that accept cryptocurrencies would be covered. Further, as with cash transactions, businesses that receive cryptoassets with a fair market value of more than $10,000 would also be reported on.”
Cryptocurrency regulation appears to be a top priority for the Biden Administration in 2021. In addition to the IRS, the Securities and Exchange Commission and Financial Crimes Enforcement Network (FinCEN) are also expected to increase their oversight over the industry in the coming months. We encourage individuals and entities with potential legal exposure related to cryptocurrency to closely monitor this rapidly evolving area of law and consult with an experienced attorney regarding how to limit your potential liability.
If you have any questions or if you would like to discuss the matter further, please contact me, Jeff Pittard, or the Scarinci Hollenbeck attorney with whom you work, at 201-896-4100.