The IRS does not create new Annual Reports on a whim. The newest report is one that all crypto users should view with caution. The Report is the work of the IRS’s Small Business/Self-Employed Tax (SB/SE) Division and it highlights a new Virtual Currency enforcement and compliance initiative.
Despite the Report’s newness (June 2020), it is not entirely unexpected. Just last year, the IRS updated its cryptocurrency guidance on tax reporting (IRS Notice 2019-24) and mailed some 10,000 letters to crypto users warning of proper reporting; and in 2020, the U.S. Government Accountability Office (GAO) published a 48-page report recommending improvements to the IRS’s tax reporting requirements. Government Agencies are taking notice. What is clear is the IRS’s treatment of all cryptocurrency as “property”, not true currency, which carries significant tax consequences and burdensome tax reporting of even the smallest transactions. Additionally, there are new cryptocurrency disclosure requirements on IRS Tax Form 1040 and the IRS’s Collection Information Statements (IRS 433 Series). New tax reporting guidance and warnings, coupled with new disclosure requirements, places taxpayers engaging in cryptocurrency neatly under the IRS microscope.
If that was not enough, the new SB/SE Report highlights its focus on cryptocurrency enforcement and compliance efforts (calling it an “important focal point”). This is where the tide changes to rougher seas. First, the IRS notifies and educates the public; next, they come knocking.
Most recently, SB/SE established a virtual currency task force to assist in resolving compliance issues and making audit recommendations. When combined with the SB/SE’s new fraud initiative and Bank Secrecy Act examinations, cryptocurrency users are smart to act cautiously and conservatively – at least until the crypto-tax legal landscape is better developed. The report also highlights increased and advanced training of IRS cryptocurrency subject matter experts and IRS technical personnel. And do not expect the learning curve to be too steep, the IRS can quickly lessen the curve with taxpayer dollars.
New IRS initiatives are often acted upon swiftly and harshly – just ask those taxpayers wound in the web of Foreign Bank Account Reporting, circa 2011. Now, the IRS wants to know two things and wants to know them immediately: one, do you own cryptocurrency, and two, are you reporting them (fully). Rest assured, if a taxpayer engages in cryptocurrency activities, the taxpayer’s tax return will get a second look around tax time.
The IRS cryptocurrency reporting regime is in its infancy, and as the GOA points out – more needs to be done to help taxpayers comply with the tax laws. The better course of valor by the IRS may be to create a Voluntary Disclosure Program for those taxpayers who failed to properly report cryptocurrency transactions now or in the past six years. The IRS’s Offshore Voluntary Disclosure Program (OVDP) netted great success, about $6.5 billion in back taxes, interest and penalties, while treating taxpayers who participated fairly and reasonably. There is no reason to believe the IRS would not experience a similar result with crypto users. Treating taxpayers unfairly now will only result in more secrecy in a pseudo-anonymous crypto world.
The IRS should also consider a de minimis tax exemption for day-to-day cryptocurrency purchases. The Virtual Currency Tax Fairness Act of 2020 calls for that very thing (tax exemptions for transactions less than $200), but it sits in the halls of Congress with no movement since January 2020. There are few tax laws more draconian than a capital gain on a bag of M&M’s.
A sense of fairness promotes tax compliance. Releasing the Kraken on crypto users now with little or disjointed guidance will carry a perception of extreme unfairness. And when you add in a capital gain on a stick of gum, watch the cat and mouse games begin.