Sure, you might have to actually pay U.S. taxes on those crypto trades. But at least it will be easier to figure out how much you owe.
A new push by Congress to require crypto brokers to report transactions to the Internal Revenue Service could create some unwelcome tax bills but could clarify rules for traders and users of Bitcoin and other digital tokens, potentially strengthening the system in the long run, people in the industry say.
The new rules — a last-minute addition to the $550 billion bipartisan infrastructure package now being considered by the U.S. Senate — would also force businesses to disclose trades of digital assets of more than $10,000. The provisions are designed to raise $28 billion.
The measures add to increased scrutiny the IRS has recently applied to traders of Bitcoin, Ethereum and other digital assets. The agency has promised it will issue new rules that clarify how those virtual currencies should be taxed.
People who trade digital currencies must pay income taxes on any gains, even if some crypto investors have been ignoring their tax obligations. But even for those who want to follow the law, it can be difficult to keep track of what’s owed.
Filing taxes on crypto trades can create huge headaches, especially for those who conduct multiple transactions each year. While traditional stock brokerages are already required to send detailed tax forms to clients, crypto exchanges aren’t. Even if firms wanted to help their clients file taxes, it’s not always clear how to do that under the current regulations.
In addition, tax obligations can pop up in surprising places. People who use digital currencies to pay for things — like, say, a Tesla, or a pizza — are supposed to pay taxes on any increase in value of the crypto they spend. It’s a key difference between using digital “currencies” and actual, fiat currencies such as the U.S. dollar to conduct commerce.
Andrew Johnson, a project manager at a large national bank, has invested tens of thousands in crypto and uses a dedicated service to figure out what he owes in taxes. He’s been using CoinTracker, which he learned about though a YouTube channel that he trusts.
“Most would benefit from a tracking service to help with taxes,” he said. “For me, I decided it was worth the cost to not have to manually track all the trades I did — which could take hours or days.”
Cryptocurrency exchanges and others in the industry have raised concerns that the U.S. Senate is rushing the rules into effect without consulting them first.
Some wondered whether the new rules and regulatory attention would encourage mainstream investors to join the space — or hurt the appeal of cryptocurrencies by killing its anything-goes ethos.
“Some portion of crypto investors may start to have second thoughts about the tax consequences,” said Michael Bailey, director of research at FBB Capital Partners. “It’s almost like crypto is a really fun party, but it’s getting late and a few people are starting to look at their watches as they think about the next morning.”
For years, the IRS has been warning taxpayers to report cryptocurrency transactions on their tax returns. More recently, the agency has made clear that fighting tax evasion through digital currencies is a top priority.
The IRS has started collecting vast amounts of data on blockchain transactions, has subpoenaed crypto exchanges and worked on coordinating enforcement with foreign governments. Last year, the IRS added a yes-or-no question to the front page of the 1040 income tax form asking whether filers had sold or exchanged virtual currencies.
The jurisdiction of U.S. law enforcement only reaches so far, and crypto traders who prize secrecy could flee to offshore exchanges, or take other measures to avoid being spotted by the IRS. However, the U.S. has already shown it can crack down on foreign tax evasion by, for example, forcing banks in Switzerland and elsewhere to divulge details on American clients.
Even if parts of the crypto universe remain hidden, it may be difficult to move those assets onshore and turn them into legitimate wealth.
“If a U.S. taxpayer is into crypto for the ability to underreport income from sales or transfers, chances are someone in a chain somewhere may have to disclose it,” said Julio Jimenez, an attorney who is principal in the tax services group at Marks Paneth LLP.
All this isn’t necessarily a bad thing for law-abiding investors in digital assets if they end up with clearer rules and easier-to-understand annual statements from crypto firms.
“I think it will have a positive effect on the industry,” said Brett Cotler, an attorney at Seward and Kissel LLP in New York who specializes in blockchain and cryptocurrency. While exchanges and fintech firms that deal in digital currencies may have to spend money upgrading reporting and compliance systems, it will improve customer service, he said.
Johnson, the crypto trader, said he thinks the new rules will help legitimize the crypto ecosystem and foster international growth.
“While at its heart, crypto assets have been a means of moving value outside of government-controlled rails, I still understand the need for regulation in the crypto space in order for wider adoption to take place,” he said.
— With assistance by Natasha Abellard, and Laura Davison