The IRS Sets a Trap for Cryp­tocur­rency Tax Cheats

The tax col­lec­tor is mak­ing it a lot harder to pre­tend you don’t have bit­coin or other vir­tual cur­ren­cies hid­den away some­where

Bangkok Post - - THE WALL STREET JOURNAL. - LAURA SAUNDERS

Cryp­tocur­rency hold­ers, be­ware: A sur­pris­ing change to your 2020 tax form is about to strip away ex­cuses for ig­nor­ing the tax rules on bit­coin, ether or other dig­i­tal cur­ren­cies.

The In­ter­nal Rev­enue Ser­vice plans to al­ter the stan­dard 1040 form by putting this ques­tion on the front page: At any time dur­ing 2020, did you sell, re­ceive, send, ex­change or oth­er­wise ac­quire any fi­nan­cial in­ter­est in any vir­tual cur­rency? The tax­payer must check the box “Yes” or “No.”

The crypto ques­tion first ap­peared on the 2019 tax form, but on a part of the re­turn that not all fil­ers had to an­swer. Now it’s mov­ing to the 1040’s most prom­i­nent spot, just be­low the tax­payer’s name and ad­dress.

The IRS’s move is a strong warn­ing to mil­lions of crypto hold­ers who aren’t com­ply­ing with the law that they must file re­quired forms they may see as bur­den­some and pay taxes they may think are un­fair. It has im­pressed tax spe­cial­ists.

“This place­ment is un­prece­dented and will make it eas­ier for the IRS to win cases against tax­pay­ers who check ‘No’ when they should check ‘Yes,’” says Ed Zol­lars, a CPA with Ka­plan Fi­nan­cial Ed­u­ca­tion who up­dates tax pro­fes­sion­als on le­gal de­vel­op­ments.

Mr. Zol­lars notes that U.S. tax au­thor­i­ties have al­ready suc­ceeded with a sim­i­lar strat­egy: A sim­ple tax-re­turn ques­tion about off­shore fi­nan­cial ac­counts greatly aided their crack­down on Amer­i­cans hid­ing money abroad. Since 2009, it has brought in more than $12 bil­lion from in­di­vid­u­als.

By chang­ing the po­si­tion of the crypto ques­tion and hav­ing all 1040 fil­ers re­spond to it, the IRS mak­ing it much harder to claim ig­no­rance of the rules. Ly­ing on a tax re­turn is a bad idea be­cause fil­ers sign re­turns un­der penalty of per­jury, and ju­ries of­ten side with the IRS when it’s clear a tax­payer has lied.

The change to the crypto ques­tion and other re­cent ac­tions show the IRS is tak­ing cryp­tocur­ren­cies se­ri­ously as a threat to the tax sys­tem, whether the non­com­pli­ance is by en­thu­si­asts who owe lit­tle or by so­phis­ti­cated in­ter­na­tional crim­i­nals. In two re­cent non­tax crim­i­nal cases—one in­volv­ing theft by North Korea and the other in­volv­ing the sale of child pornog­ra­phy by a Dutch na­tional—the IRS has pro­vided key as­sis­tance be­cause of its grow­ing ex­per­tise in cryp­tocur­ren­cies.

The agency is right to be wor­ried about non­com­pli­ance, say spe­cial­ists. Coin­base, a lead­ing cryp­tocur­rency ex­change and cus­to­dian, said it had 35 mil­lion to­tal ac­counts as of July. Chainal­y­sis, a firm that pro­vides crypto in­ves­ti­ga­tions soft­ware, es­ti­mates there were at least 3.1 mil­lion ac­tive ac­counts us­ing the pop­u­lar bit­coin cur­rency in the U.S. be­tween June 2019 and July 2020.

The IRS won’t say how many tax­pay­ers have checked the crypto box for 2019. But Dan Han­num, chief op­er­at­ing of­fi­cer of ZenLedger, a crypto tax-prep soft­ware firm, thinks a to­tal of fewer than 150,000 crypto own­ers filed re­quired tax forms for 2017, 2018, and 2019, based on his in­dus­try knowl­edge.

For their part, many crypto users are an­gry with the IRS’s guid­ance, which treats bit­coin, ether and their kin as prop­erty rather than cur­rency. So if a crypto holder uses it to buy some­thing or ex­changes one cryp­tocur­rency for an­other, there’s usu­ally a cap­i­tal gain or loss to re­port on the tax re­turn.

“Buy­ing a sand­wich with cryp­tocur­rency shouldn’t be a tax­able event,” says Sean Cover, a New York City cryp­tocur­rency holder who works in fi­nance for a non­profit group. He says that in 2017 he had more than 500 trans­ac­tions on sev­eral plat­forms, and it took him 10 hours to pre­pare his crypto tax forms even though he paid for spe­cial soft­ware.

Like some mem­bers of Congress, Mr. Cover sup­ports a $200 thresh­old be­fore crypto trans­ac­tions would need to be re­ported. The IRS says it’s up to Congress to change the law.

Tax pro­fes­sion­als also have con­cerns. Ear­lier this year, the Amer­i­can In­sti­tute of CPAs sent the IRS of­fi­cials a 28-page let­ter tak­ing is­sue with its guid­ance that said the crypto re­ceived from re­or­ga­ni­za­tions called forks and mar­ket­ing give­aways called air­drops can be tax­able to re­cip­i­ents. It asked for other clarificat­ions as well, such as for re­port­ing off­shore hold­ings of cryp­tocur­ren­cies.

Meanwhile, the IRS is forg­ing ahead with other crypto com­pli­ance mea­sures. Ear­lier this month, it of­fered re­wards up to $625,000 to code-break­ers who can crack so-called pri­vacy coins like Monero that at­tract il­licit ac­tiv­ity be­cause they claim to be un­trace­able.

In late Au­gust, the agency re­leased guid­ance af­firm­ing that tax­pay­ers who re­ceive crypto for com­plet­ing “mi­cro­tasks” must de­clare it as in­come. This ap­plies to users of firms like StormX, which makes tiny pay­ments in crypto to peo­ple who do small tasks such as play­ing games, an­swer­ing sur­veys, or eval­u­at­ing prod­ucts.

The IRS is also send­ing a new round of let­ters to crypto hold­ers who may not have com­plied with the tax rules, ex­pand­ing on last year’s mail­ing of about 10,000 let­ters. Tax spe­cial­ists say the re­cip­i­ents are of­ten cus­tomers of Coin­base, which was or­dered by a fed­eral court to turn over in­for­ma­tion on some ac­counts to the IRS.

Chandan Lodha, the chief op­er­at­ing of­fi­cer of Coin­tracker, a soft­ware firm sell­ing crypto tax-prep ser­vices, says many of its new cus­tomers are seek­ing help not just with 2019 forms (due Oct. 15 for tax­pay­ers with ex­ten­sions) but also for ear­lier years—pre­sum­ably to amend prior re­turns.

He adds, “Based on what we’re see­ing, peo­ple are start­ing to get scared.”

The place­ment of a ques­tion on US tax forms con­cern­ing hold­ing vir­tual cur­rency should make it eas­ier to crack down on vi­o­la­tors.

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