Most Americans have heard of the Internet currency, Bitcoin. But what is it? Bitcoin is a decentralized currency, which means that a bank or any particular government does not control it. It is freely traded online and much like centralized foreign currency, has a conversion rate and therefore a value in U.S. Dollars. Earlier this year, the IRS announced that for the purposes of income tax, Bitcoins and other virtual currency are not currency at all, but are property instead.
A person can purchase Bitcoin from a company that works as a Bitcoin exchange. Some of these companies will exchange tangible, flat currency for Bitcoin and others will exchange only various types of other virtual currency. A person transfers money to a Bitcoin exchange company and an account is opened. Their Bitcoin balance resides in that account. Further, when they want to “cash-out” their Bitcoins, the currency that the customer receives in exchange for their Bitcoins is also housed in that account until withdrawn.
Earlier this month, Rod Lundquist, a senior program analyst for the Small Business and Self-Employment Division of the IRS, announced that Americans would not need to file an FBAR for their Bitcoins held in foreign exchanges this year. Many Bitcoin owners and some tax professionals stopped listening, and quite frankly, stopped caring about possible further reporting implications when they heard this. But there is still a very real possibility that such a mistake could cost American taxpayers serious amounts of money in penalties.
Bitcoin owners and many tax professionals advising American taxpayers may not have noticed the potential loophole that the IRS may use to penalize American Bitcoin customers.
It is obvious that the Bitcoins themselves do not need to be reported via FBAR, but what about currency that Bitcoin exchange customers have sitting in their exchange accounts? We can safely assume that other virtual currencies that were received in return for Bitcoins need not be reported as they are virtual currency as well, but flat currency like U.S. Dollars or Euros that have been exchanged but not yet withdrawn are another story.
Bitcoin exchanges aren’t banks but they may covered under the Bank Secrecy Act and therefore may require disclosure of accounts that hold more than $10,000 in flat, tangible currency. A Federal Court in California ruled only a few weeks ago in United States v. Hom, that accounts set up for foreign online gambling such as PartyPoker.com and PokerStars.com are considered commercial financial banking institutions under the Bank Secrecy Act and the cash balances therein must be reported. The resemblances between an account that an American places money into to buy online poker chips and an account that money is placed into to purchase Bitcoins are shockingly similar. And remember, the IRS did not say that Bitcoin exchange accounts were not foreign bank accounts, but rather that Bitcoin (as a commodity) did not need to be reported. If you have a Bitcoin exchange account, you may need to file an FBAR before June 30th.
There are several Bitcoin exchange companies worldwide, but Mt. Gox, a Japanese Bitcoin exchange was among the largest. In 2013, Mt. Gox was handling over 70% of the world’s Bitcoin transactions. A massive security breach caused the company to go bankrupt in early 2014. Thousands of customers cashed out of the exchange and it would not be hard to believe that as customers exchanged their Bitcoins for centralized currency, there was a period of time where their exchange account had in excess of $10,000, which could give rise to the requirement to file an FBAR.
The deadline to file an FBAR is June 30th and if you have been using Bitcoins, it would be in your best interest to file an FBAR for accounts that have had in excess of $10,000 in tangible, flat currency. The cost of filing is relatively low considering the penalty for failing to file. If the government determines that you willfully failed to file an FBAR, there is a penalty of 50% of the highest account balance for each year that you fail to file. The penalty has been called “draconian” by some taxpayer rights groups, but is nevertheless completely legal and enforceable.
The tax professionals at the Tax Law Offices of David W. Klasing are experienced helping taxpayers stay on top of their obligations to file FBAR’s and assist those who have failed to file, get right with the government. The intricacies of the FBAR requirements are sometimes confusing and we are here to help. But time is running out. Contact us today for a reduced-rate consultation.