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Bitcoin Owners Prepare For Coinbase Summons And IRS Audit Trouble

With the rapid growth of technology and changing standards in building out a digital global economy, domestic laws surrounding new forms of convertible currency can be almost as dynamic as its value in the markets themselves. It is important for investors and any other applicable parties who may be interacting with these new forms of currency in the virtual economy to understand tax laws involved with these new systems of money and how it all translates to the paperwork at tax time.

The volatile virtual currency bitcoin, which trackers like CoinDesk show can sometimes have spikes in price of hundreds of dollars in a matter of weeks, peaked at a value over $1,000 in early January 2017. This is a dramatic contrast to the virtual currency’s humble beginnings several years ago. Small amounts purchased at its inception in 2009 are now worth hundreds of thousands of dollars.

This revolutionary new form of currency has become perhaps surprisingly widespread and useful. Unfortunately, in doing so it also became a concern for taxpayers, and particularly for those individuals or entities who may now owe taxes on past virtual transactions.

Ever since the IRS turned its gaze towards the virtual currency realm just a couple of years ago, regulations and auditing strategies have gradually been ramped up across time. Although the argument of whether these virtual currencies are truly money has been an unclear one among many market players, the authorities have made one thing abundantly clear; where virtual currencies are often convertible to legal tender, income using these forms of currency must be considered part of taxable property.

Although no virtual currency is presently categorized as legal tender in any nations or international blocs thus far, being deemed as taxable property here in the US means that any payments made to an individual using the virtual currency must be included on W-2 forms, 1099 forms, and any other applicable documents pertaining to taxes. This also means there are special regulations for those employing or contracting anyone being paid with these new forms of currency.

A great deal of virtual currency business is done through the Coinbase, Inc. organization, which not only facilitates bitcoin transactions but also offers small amounts of the virtual currency for free to new users, further diluting and complicating the already ambiguous virtual financial market. In late 2016, the US Department of Justice Tax Division issued a court order to the virtual currency account provider to release information regarding its account holders for purposes of investigating potential information misrepresentation and possibly even tax evasion. This order accompanies determinations in 2014 that virtual currency had been deemed taxable, but tax requirements are further retroactively applicable even back to 2013 when bitcoin had its first major spike in US dollar value.

International diversification is a fundamental component of many investment portfolio strategies. With the development of virtual currency exchanges overseas, properly managed virtual currencies have become a unique and potentially valuable option for expanding international diversification. When it comes to taxes, however, there are concerns with international accounts as well. The court order imposed upon Coinbase pertains to initiatives to track down overseas accounts to determine the true nature of tax liability among virtual currency users involved in deals made abroad.

The IRS is investigating not only individuals, but also businesses which are utilizing virtual currency. This means business owners who use virtual money need to stay up to date and be sure that tax forms including necessary virtual income additions are available to the IRS and completed accurately.

The complexity of the issue does not end with the authorities obtaining the user data, however. Even with virtual currency being labeled as taxable property, not all virtual currency transactions involve a taxable gain. Under tax law in general, unrealized gains in virtual currency investment continue to not be considered immediately relevant. Tax enforcement does have concerns, however, that virtual currency is being used for direct payments which are currently off the tax radar without it being appropriate to those situations. This is the type of information which tax enforcement investigators hope to obtain using the legal summons against Coinbase, a summons which is clashing with the virtual currency account provider's policies regarding customer anonymity and privacy.

One of the goals of tax enforcers in investigating these otherwise unseen virtual currency accounts is motivation of taxpayers to come forward about unreported information in those accounts. The harder the organization must work to obtain information regarding tax violators, the more aggressive its penalties are known to be. Severe cases can even involve criminal charges.

A tax attorney can help facilitate and inform a virtual currency user's decision making processes and currency information reporting. Tax attorneys know what types of virtual currency information need to be calculated out for reporting, how to maintain documentation within anti-money laundering policy parameters, what amounts of digital currency are then relevant and when to act upon issues that arise, and how to properly amend past tax filings as needed to avoid heavy penalties.

Mary King
Attorney Mary King

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