Investors who can stomach the wild swings of cryptocurrency’s rapid fluctuations should be forewarned: the IRS is fortifying its efforts to regulate crypto assets and enforce investor’s tax reporting and payment obligations. How investors proceed is critical.
In 2014, the IRS released initial guidance on cryptocurrency, defining it as property subject to federal taxes on its use, including sales and exchanges for other types of property, payments for goods and services, and investment purposes. For example, a taxpayer who receives cryptocurrency as payment in exchange for goods 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. In fact, the U.S. Treasury estimates that there is multi-billion-dollar difference between the amount of taxes owed on cryptocurrency transactions and the actually amount paid to the government.
With the rise in cryptocurrency mania over the past year, federal agencies have been busy working to unmask users of crypto assets and improve tax-reporting compliance. For example, the administration proposed increasing the IRS budget for 2022 by $1.2 billion to help the agency ramp up its tax enforcement efforts. At the same time, the IRS put together a team of cryptocurrency-trained criminal investigators to focus on weeding out tax evasion while announcing it would begin using software capable of reviewing taxpayers’ returns and identifying all unreported cryptocurrency gains and losses. More recently, the Treasury Department, citing the “broad use of cryptocurrency to facilitate illegal activity,” proposed a requirement that all transfers of cryptocurrency with a fair market value of more than $10,000 be reported to the IRS.
Based on recent court cases, it appears that the government efforts are working. A few years ago, the IRS received approval to issue 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. Just this year, a federal court ruled in favor of the IRS, requiring two cryptocurrency exchanges to identify and share with the agency the records of users with more than $20,000 in annual transactions during the years 2016 through 2020.
As cryptocurrency reporting enforcement continues to pick up, 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.
About the author: Todd A. Moll, CFP®, CFA, is a director and chief investment officer with Provenance Wealth Advisor, an Independent Registered Investment Advisor affiliated with Berkowitz Pollack Brant Advisors and CPAs, and a registered representative with Raymond James Financial Services. He can be reached at the firm’s Ft. Lauderdale, Fla., office at (954) 712-8888 or via email at info@provwealth.com.
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Posted on July 21,2021