What Exactly is Bitcoin and other forms of Cryptocurrency?

What Every Tax Advisor NEEDS to Know About 21st Century E Money

By David Klasing, Esq. M.S. – Tax, CPA

What Is Bitcoin?

The U.S. Treasury identifies Bitcoin as a decentralized virtual currency. It was created in 2009 by an individual (or group) using the alias “Satoshi Nakamoto.” It exists independently of any virtual world, and can be transferred without a central bank, clearing-house or other third-party administrator, successfully reducing transaction fees and other charges. By removing any central authority, Bitcoin gives each person the ability to directly and freely choose with whom to associate, interact or exchange.

Transactions are made directly between sender and receiver, and verified by network nodes using a public ledger. The verification process is entered through the system through a process called “mining.” “Miners” solve increasingly complex mathematical equations to authenticate transfers, and are compensated for their services with newly-created bitcoins.

Approximately 15 million bitcoins have been mined thus far. As of March 2016, the average price of Bitcoin was $415. A finite number of bitcoins are available for generation, to be capped at $21 million. Experts anticipate the last bitcoin’s issuance will be reached in 2140. As of 11/22/17 16,700,000 bitcoins have been mined and are current valued at $8,159.11.

At its most basic level, Bitcoin is a relatively new technological means to transfer assets pseudo- anonymously over the Internet but some individuals use bitcoins to commit tax evasion. Bitcoin is a relatively new technology that is sometimes referred to as a digital currency or as a cryptocurrency. While Bitcoin is one type of digital currency (Cryptocurrency) competitors include Litecoin, Dogecoin, Peercoin, Quark, NXT, and others. Users of Bitcoin and similar digital currencies can send and receive money over a decentralized network that relies on a public ledger known as a “block chain” to authenticate and verify transactions. For many users of the service, using bitcoin is akin to utilizing a digital wallet, however, additional complexity lurks beneath the surface of user-friendly Bitcoin wallet interfaces.

Users Can Contribute Computing Resources to “Mine” Bitcoins

Traditional forms of hard currency, currency backed by gold or other precious metals are subject to constraints on the supply of money. While this fact is less relevant for fiat currencies, it is highly relevant for Bitcoin due to the artificial scarcity specifically designed into the model. That is, there will never be more than, roughly, 21 million Bitcoins. However, all 21 million coins have not yet been discovered. Therefore, users can “mine” for Bitcoins which will inject new Bitcoins into the money supply.

Stating that people “mine” for bitcoins somewhat obfuscates the relationship, however. What is actually occurring is that people are choosing to contribute computing power to maintain the public ledger (blockchain) containing all Bitcoin transactions ever conducted. Thus, for work performed in keeping the Bitcoin network running and functioning as expected, contributors can be awarded compensation in the form of Bitcoin.

Individuals who have been awarded Bitcoin from mining activities have realized income and a taxable gain. Depending on the circumstances, the bitcoin miner may owe self-employment taxes on the bitcoin income. Similarly, individuals and businesses who accept Bitcoin as payment must also generally pay taxes on this income. However, due to 2014 IRS Guidance Detailing Bitcoin tax treatment, any individual who holds or uses Bitcoin is required to engage in fastidious record- keeping. A failure to do so can subject one to a number of informational reporting and other tax penalties.

Tax Implications and Reporting Requirements:

The tax implications of using Bitcoin may seem similar to shares of stock or securities in that records need to be maintained in order to track basis of each bitcoin; however, wash sales likely
do not apply to bitcoins since they do not meet the definition of a stock share.

The IRS did indicate that the normal basis rules would apply to bitcoins, therefore Bitcoin users would have the option to sell their assets on a first-in-first-out (FIFO) basis, a last-in-first-out (LIFO) basis, or a selective cost-basis method. In a rising market, LIFO will produce the lowest tax liability, while FIFO will do so in a falling market.

Besides maintaining records for tracking basis, taxpayers should also be aware that if they are paid with bitcoins for their services, the bitcoins constitute self-employment income and therefore subject to self-employment tax.

Further, a person who in the course of a trade or business makes a payment using virtual currency may have a Form 1099-MISC reporting requirement if the value is $600 or more to a non-exempt recipient. Accordingly, backup withholding could apply.

Recently, a bill was proposed in the House of Representatives to create tax exemptions for cryptocurrency transactions under $600. While this may create wider freedom for many transactions, it may also create problems with disclosures or structuring transactions to avoid disclosure requirements.

Where is the most current IRS guidance on Virtual Currency found?

The most current guidance on IRS virtual currency is found in Internal Revenue Bulletin: 2014- 16.

Excerpts from Internal Revenue Bulletin: 2014-16:

IRS knows that “virtual currency” can be used to acquire goods and services, or as an investment. Defines virtual currency as a digital representation of value used as a medium of exchange, or to store value and has some functions like “real” currency of the U.S. or many foreign jurisdictions. It can function like legal tender, but does not enjoy the legal status as “legal tender” in any jurisdiction.

Convertible virtual currency, BitCoin for example, has an equivalent value in real currency and functions as a substitute for real currency and can be digitally exchanged between buyers and sellers, purchased via or exchanged into, U.S. dollars and many other foreign currencies.

The purchase, sale or exchange or use of virtual currency to pay for goods or services has tax consequences that may result in tax being owed. The common U.S. federal tax consequences related to virtual currencies are described below.

  • Virtual currency is currently not treated as currency such that would generate foreign currency gain or loss for U.S. federal tax purposes.
  • A taxpayer who receives virtual currency where goods or services are sold must include the fair market value of the virtual currency, in U.S. dollars at the date of receipt.
  • The basis of virtual currency is the fair market value in U.S. dollars at the date of payment or receipt.
  • Where virtual currency is listed on an exchange that reflects market supply and demand, its FMV is determined by converting to U.S. dollars at the applicable exchange rate, in a reasonable and consistent manner.
  • Where the FMV of the property received in an exchange involving virtual currency exceeds the taxpayer’s adjusted basis in the virtual currency, the taxpayer has incurred a taxable capital gain. In contrast, a capital loss occurs where the FMV of the property received is less than the adjusted basis of the virtual currency.
  • The character of the gain or loss generally turns on if the virtual currency is a capital asset in the hands of the individual taxpayer. A taxpayer realizes ordinary gain or loss on the sale or exchange of virtual currency that is not a capital asset in their hands. Virtual currency held as inventory in a trade or business is not a capital asset.
  • Where a taxpayer “mines” virtual currency, the fair market value of the virtual currency at the time of receipt is includible in gross income. Where the mining of virtual currency constitutes a trade or business and is not conducted as an employee, the gross income less
    allowable deductions constitutes self-employment income subject to the self-employment tax.
  • The FMV of virtual currency received as payment for services performed as an independent contractor constitutes self-employment income and is subject to the self-employment tax.
  • The fair market value of virtual currency paid as wages is subject to self-employment tax and federal income tax withholding, and must be reported on Form W–2
  • All payments made using virtual currency are subject to identical information reporting as any other payment that is made in property. For example, payment made from a trade or business using virtual currency with a FMV in excess of $600 to a non-exempt U.S. recipient during a taxable year are required to reported to the IRS and to the payee via the appropriate form 1099. Examples reportable payments include rent, salaries, wages, premiums, annuities, and compensation.
  • Payments made via virtual currency to foreign payees are also subject to backup
    withholding as are other payments made in property. Taxpayer identification number (TIN) must be obtained from the payee where appropriate. Moreover, the payor must do backup withholding where a TIN is not obtained of where the payor receives notification from the IRS that backup withholding is required.
  • In general, a business or organization interacting with a substantial number of unrelated merchants to settle payments between the various merchants and their individual customers is deemed a third-party settlement organization and is required to report the total payments made to an individual merchant during a calendar tax year on a Form 1099-K.
  • Taxpayers utilizing virtual currency will be subject to penalties for failure to comply with tax laws as with other types of mediums of exchange. For instance, underpayments related to virtual currency transactions are subject to accuracy-related penalties as dictated by section 6662. Failures correctly report virtual currency transactions where required are subject to information reporting penalties found under section 6721 and 6722. Penalty relief may be available who can establish that a virtual currency reporting error is due to reasonable cause.

The current uncertainty when dealing with virtual currency is best illustrated by the following link to an AICPA request to the IRS for further guidance in this area:

https://www.aicpa.org/advocacy/tax/downloadabledocuments/aicpa-comment-letter-on-notice-2014-21-virtual-currency-6-10-16.pdf

How Do I Report Bitcoin Transactions on my Taxes? 1040? Schedule D? Form 8949?

The IRS’s decision to characterize virtual currency such as Bitcoin as property rather than currency resulted in a number of tax impacts. Fundamentally, treating Bitcoin and like cryptocurrencies as property opened the door to issues concerning capital gain and capital loss.

That is, when property is sold or otherwise transferred, a tax payer is generally obligated to compute gain or loss on the property. If the property has increased in value, potentially significant capital gains taxes may be due. If the cryptocurrency was acquired because of mining activity it results in self-employment income at the value of the cryptocurrency on the date received.

However, there is still a great deal of confusion concerning the proper method of accounting for and reporting Bitcoin and other cryptocurrency transactions, income, and taxes. In fact, the still developing state of the law regarding the handling of virtual currencies suggests that taxpayers would be prudent to routinely engage in compliance audits based on a current but evolving understanding of the law. One area where it appears that mistakes and insufficient legal filings may be rampant involves the reporting of Bitcoin and other cryptocurrency capital gains and losses and self-employment income from mining activity.

Tax Mistakes May be Rampant Regarding the Failure to File IRS Form 8949

In fact, while it is generally required for taxpayer to file an 8949 when reporting Bitcoin and cryptocurrency transactions as part of a tax filing, it appears that compliance is shockingly low. One study seems to suggest that while taxpayers may have an obligation to file 8949s along with their Schedule D, many do not. Despite the belief that at least hundreds of thousands, if not millions, of people utilize Bitcoin and other cryptocurrencies, the IRS found that a very small percentage is filing the 8949. The IRS study found that:

  • In 2013, 807 individuals reported a transaction on Form 8949 using a property description
    likely related to Bitcoin.
  • In 2014, 893 individuals reported a transaction on Form 8949 using a property description likely related to Bitcoin.
  • In 2015, 802 individuals reported a transaction on Form 8949 using a property description likely related to Bitcoin.

While the study is imperfect and relies on the description provided by the taxpayer, it is clear that filings are far below the numbers that the level of Bitcoin activity should suggest.

Generally, when taxpayers have engaged in Bitcoin transactions, Form 8949 should be included along with 1040 Schedule D. Per the instructions set forth for a Schedule D filing, a taxpayer should:

Use Form 8949 to report the sale or exchange of a capital asset (defined later) not reported on another form or schedule. Complete all necessary pages of Form 8949 before you complete line 1b, 2, 3, 8b, 9, or 10 of Schedule D. See Lines 1a and 8a, later, for more information about when Form 8949 is needed and when it isn’t.

Thus, Form 8949 should typically be included when a capital asset has been transferred. In many scenarios, virtual currency is likely to qualify as a capital asset. The Schedule D instructions include “virtual currency” as an “item for special treatment” and directs users to the IRS 2014 virtual currency publication. The publication states that Bitcoin and cryptocurrency capital gain and loss is realized when Bitcoin/cryptocurrency is a capital asset in the hands of the taxpayer. While taxpayers who are currency dealers or otherwise hold Bitcoin as inventory mainly for sale to customers are an example of individuals who hold bitcoin as a non-capital asset, most other taxpayers who hold Bitcoin/cryptocurrency will do so as a capital asset. Therefore, individuals holding Bitcoin/cryptocurrency as a capital asset will generally have an obligation to report their gain or loss via a filing of Form 8949 to supplement Schedule D.

8949 or Schedule D?

As a starting point, it is first essential to note that many of the reports prepared and made available by popular Bitcoin/cryptocurrency exchanges and wallets may be insufficient for tax purposes. Many users of Bitcoin and virtual currency will use an array of wallets and services. Where a taxpayer uses a variety of virtual currency services, a single wallet or exchange cannot determine what occurred prior to importing the Bitcoin or after it has been exported to another exchange or printed. As such, the statements provided may be inaccurate for the taxpayer’s gain or loss calculations. Thus, the first step in preparing a Bitcoin/cryptocurrency tax filing is to ensure that gain and loss for individual transactions is accurately computed.

This information should be input on a Form 8949 for each transaction or other reportable events. Once the information has been input on one or more Form 8949s, totals from the separate 8949s would be totaled on Schedule D. Thus, Schedule D will provide an overall, big picture view of gain and loss while the 8949s will provide a more detailed view of individualized aspects of the overall gain or loss.

Virtual Currency and Section 1031 – Is It Possible to do a 1031 exchange with Bitcoin, Ethereum, or other Electronic/Crypto Currencies?

Individuals who were quick to recognize the opportunity presented by cryptocurrencies like Bitcoin, DogeCoin, and Ethereum have likely rode the market to significant gains as capital from China and other developing nations have flooded the market. People who bought or mined Bitcoin due to an interest in the underlying technology or because they saw an investment opportunity may be looking to diversify their cryptocurrency holdings. In any case, they may consider changing the overall balance of digital currencies held to increase the likelihood of investment gains or hedge against potential volatility.

What Is a 1031 Exchange and What Are its Benefits?

A 1031 exchange can allow an individual or a business to exchange productive property for like- kind property. Most commonly, individuals will utilize a 1031 transfer to exchange like types of real property. That is, an investor may exchange one type of investment property for another type of investment property. The investor is free to pursue other investment or business goals provided that the property remains an investment property. However, an individual may not exchange investment property for a personal residence. Furthermore, there are limitations on “dealers” or other persons handling “stock in trade” leveraging a 1031 exchange.

The main benefit of engaging in a 1031 exchange is to defer liability on capital gains taxes that would otherwise be incurred at the time of sale. In deferring taxes, a property owner can reinvest the capital towards other productive uses.

Can A 1031 Exchange Apply to Bitcoin and Digital Currency?

Since a 1031 exchange is typically associated with the sale of property or real property, it may seem somewhat of a stretch to consider whether the concept can apply to digital currency. However, the IRS has issued guidance holding that Bitcoin and similar digital currencies will not be treated as currency for tax purposes. Rather, Bitcoin and similar cryptocurrencies should be considered property for tax purposes.

As property, Bitcoin, Ethereum, DogeCoin, and other types of crypto currency are subject to capital gains taxes and related record-keeping requirements. Since Bitcoin is treated as property and capital gains taxes apply, a 1031 exchange may produce favorable tax benefits if the variations of crypto currencies involved are held to be like kind. See conclusion below: However, the 1031 exchange is only available when the holder of the digital currency meets certain qualifications.

For one, the holder of the digital currency must hold the capital asset for business or investment purposes. In addition, the holder of the Bitcoin or other digital currency must not be a dealer or otherwise treat the asset as inventory or stock in trade.

In the context of an individual trading Bitcoin for Ethereum, a 1031 transfer is likely appropriate if the exchange is deemed to be like-kind in nature. However, if that individual was a professional currency trader or otherwise in the business of trading currencies, then it is unlikely that he or she would be able to leverage this type of transfer absent an exception or unusual circumstances.

There are numerous court cases, Private Letter Rulings, and other administrative guidance that aim to determine whether two investment properties are similar enough to be considered like-kind. In practice, the government is the true arbiter of what assets are like-kind and what assets aren’t.
In a recent letter to the IRS, the AICPA asked the Service to provide guidance as to whether varying types of cryptocurrency were like-kind properties for Section 1031 purposes. In Notice 2014-21, the IRS’ guidance on virtual currency, the Service plainly states that virtual currencies are property and not currency for U.S. tax purposes. Thus, it appeared to be reasonable that a taxpayer may be able to utilize Section 1031 to defer any gains if he or she were to exchange Bitcoin for Ethereum, for instance.

But since the release of Notice 2014-21, the IRS and the federal government as a whole have shown a considerable amount of hostility toward virtual currency. Last year, the IRS issued a hotly contested John Doe summons directed at Coinbase, a virtual currency exchange. Recently, the Treasury Department’s Financial Crimes Enforcement Network (FinCEN) has cracked down on virtual currency exchanges that have not registered with the federal government as a Money Services Business.

The recent regulatory enforcement constriction as it relates to virtual currency appears to evidence a shift in the government’s position and suggests the IRS is beginning to view cryptocurrency more like actual currency and less like investment property. A taxpayer exchanging Euros for U.S. Dollars would not be able to rely on Section 1031 to defer any currency exchange gain and so it appears that the same could be said about exchanging one type of virtual currency for another. Additionally, congress is currently entertaining legislation that would limit 1031 solely to real estate transactions.

1031 – Conclusion

At present our office does not believe 1031 can be utilized where cryptocurrency is concerned. Presenting the issue to the IRS through a private letter ruling is the only way to obtain certainty however.

What to Do When the IRS Wants My Client’s Bitcoin Trade History

Many people who have bought, sold, or traded Bitcoin or other digital currencies are aware that the IRS has taken an interest in their activities. While many people may believe that their Bitcoin activities were a mere hobby that could not possibly result in negative tax consequences, the reality suggests that users of Bitcoin who have failed to account for capital gains and other tax obligations could face penalties and fines. If your client engaged in a scheme to avoid or evade income taxes, however, penalties can be much harsher and may include a federal prison sentence.

Court Granting of IRS John Doe Summons Means the IRS Is Likely to Obtain Coinbase Account Data:

Many people have heard that the IRS was attempting to obtain the account records of Coinbase users. While many people are aware of this fact, they may not understand what a John Doe summons is or its likelihood of success. As a starting point, it is essential to recognize that the IRS has previously used this tactic to successfully crackdown on the fraudulent use of offshore credit cards and foreign accounts and entities to commit offshore tax evasion. In several subsequent enforcement proceedings against taxpayers, the John Doe summons was the first step in discovering the accountholder’s real-world identity.

Updates to the Coinbase John Doe Summons:

In late 2017 Coinbase refused to comply with the summons and the IRS took the issue to court in an enforcement hearing. Anonymous Coinbase users have attempted to join the litigation, arguing that they will suffer injury if the summons is enforced.

During a hearing in the matter, the IRS informed U.S. Magistrate Judge Jacqueline Scott Corley that the IRS would be reducing the amount of information requested as a part of the John Doe summons to only information needed to determine if income has been omitted on Coinbase customers’ tax returns. Judge Corley said that it would be “extraordinary” to think that an illegal request wouldn’t create an injury to a Coinbase user after DOJ attorney Amy Matchison argued that Congress did not intend for anonymous John Doe summons targets to have the right to challenge such actions in court. Coinbase attorneys said that they intend to file a brief in opposition to the modified summons.

Have They Already Started to Turn Things Over?

Thus, in this case, it is highly likely that Coinbase will be required to turn over relevant account information relating U.S. citizens, tax residents, and others with U.S. tax obligations. In fact, on

November 30, 2016, a federal court granted the IRS’s request. While Coinbase and individual account holders have vowed to fight the release of this information, it is highly likely that the IRS will prevail. Once the IRS has this data, it will likely engage in processing to identify taxpayers who have concealed income, failed to pay capital gains or income and self-employment taxes, or otherwise engaged in improprieties with Bitcoin.

What Steps Should I Take if I’m Worried About a Client with Unpaid Bitcoin Tax?

If your client has sold Bitcoin, been paid for work performed in Bitcoin, paid employee wages in virtual currency, or engaged in an array of other transactions it is prudent to have your client seek the advice and guidance of a criminal tax defense attorney. You should instruct your client to contact a tax lawyer because if you are concerned about their potential criminal tax charges, only the attorney-client privilege is sufficient to protect the disclosures your client will need to make when seeking legal guidance. If your client makes these same disclosures to you and the government subsequently decides to prosecute your client, it is extremely likely that the IRS will subpoena you as government witness number one against your client which is a conflict of interest that could lead to malpractice litigation.

Failed to Report Bitcoin on a Client’s Taxes?

The IRS is on the hunt for Bitcoin Tax Evaders. In 2016 the Department of Justice filed a broad request in federal court requesting the identities of all customers who bought virtual currency from Coinbase, the largest Bitcoin exchange in the U.S., between December 31, 2013, and December 31, 2015.

The document is referred as a “John Doe” summons, which can only be served by the IRS after federal court approval. The summons provided that there is a reasonable basis for believing that United States taxpayers have failed to comply with the internal revenue laws.

A statement from an IRS Senior Revenue Agent, David Utzke, outlined three cases in which persons used Bitcoin to evade taxes, including one involving Coinbase customers. Two companies were identified as misreporting purchases of Bitcoin as technology expenses, rather than treating them as property, or inventory.

Although the summons’ main objective is to pursue larger offenders, small-time Bitcoin users are of interest, since they likely are not recording their virtual currency transactions properly.

Taxpayer Criminal Exposure for Failure to Comply:

Many Bitcoin users were not aware that they were supposed to record their gains and losses as taxable events each time they made purchases with their bitcoins or sold them for money. Because of the recent John Doe summons, they are at risk for tax evasion. Consequently, they may be subject to penalties for failure to comply with tax laws. Underpayments attributable to virtual currency transactions include accuracy-related penalties and information reporting penalties.
However, penalty relief may be available to taxpayers and persons required to file an information return who can establish reasonable cause.

Potential Tax Practitioner Criminal Liability:

Tax preparers that are aware a client had taxable Bitcoin or other Virtual Currency transactions and counsels against reporting this activity are at risk of conviction for several different tax crimes. It is important to emphasize the obvious that tax evasion is a very different concept than tax avoidance is. Tax avoidance involves the careful, legal structuring of one’s affairs so his or her tax liability is legally reduced or minimized. Tax avoidance is legal. As one famous judge put it, “one may so arrange his affairs that his taxes shall be as low as possible; he is not bound to choose that pattern which will best pay the Treasury; there is not even a patriotic duty to increase one’s taxes.” Helvering v. Gregory, 69 F.2d 809, 810-11 (2d Cir. 1934). Tax evasion, by contrast, is not legal and it involves the willful attempt to avoid paying one’s tax liability after it has been incurred.

A tax practitioner can be found guilty to the same extent as the taxpayer who owes the taxes. This is because the scope of tax evasion is defined broadly in Section 7201. Specifically, Section 7201 provides that tax evasion includes a person’s attempt “in any manner”—including helping another— “to evade or defeat any tax” or its payment (emphasis added). Thus, the statute allows the IRS to prosecute a person for the evasion of another’s tax liability. The defendant need not be the taxpayer in question.

To successfully prosecute a violation of the aiding or assisting provisions for aiding or assisting another to file a false form, the government must prove beyond a reasonable doubt that;

  • The defendant aided, assisted, procured, counseled, or advised the preparation or presentation
    of a document,
  • The document was false as to a material matter,
  • The defendant acted willfully.

Charges under this provision are most often brought against, accountants, bookkeepers and others (including an entity’s employees) who prepare or assist in the preparation of tax returns. However, the statute is not limited solely to the direct preparation of a return, but is much broader in that the statute reaches any intentional conduct that contributes to the presentation of a false document to the IRS.

Case law in this area provides the following examples:

  • An individual who sold discounted winning horse or dog race tickets to others for cash, thereby causing the filing of a false Form 1099s, as well as the individuals who signed government forms provided to the racetracks that falsely stated that he or she was the winner of the horse or dog race;
  • A person who knowingly prepared overstated appraisals to substantiate overstated deductions for charitable contributions;
  • Persons who fabricate and then sell fictitious invoices to others to support nonexistent deductions;
  • A breeder who, in furtherance of a fraudulent tax shelter, signed back-dated contracts for the purchase of livestock;
  • An employee who prepared false books and records that were eventually used to prepare the entity’s returns;

To be charged under these provisions, one need only assist in the preparation of, and need not sign or file the actual false document. The statute has thus been applied to individuals who communicate false information to their return preparers, thereby causing the tax preparer to file a false return. On the other hand, the statute specifically provides that the taxpayer who signs and files the return or document need not know of, or consent to, the false statement for the aiding and abetting statue to be brought against the preparer. For example, a tax preparer who inflates deductions, understates income, or claims false credits on a client’s return may be charged with aiding and abetting, even if the taxpayer for whom the return is prepared is unaware of the falsity of the return he signed and filed. Moreover, a tax preparer who utilizes information provided by a client that the preparer knows to be false in the preparation of a return can be criminally charged with assisting in the preparation of a false return.

FALSE AS TO MATERIAL MATTER:

The courts that have ruled on what constitutes a material matter have held materiality to be a matter of law to be decided by the court and not a factual issue to be decided by the jury.

WILLFULNESS:

To establish willfulness in the delivery or disclosure of a false document, the government need only show that the accused knew that the law required a truthful document to be submitted and that he or she intentionally violated the duty to be truthful. The crime of aiding or assisting in the preparation or presentation of a false return or document requires that the defendant’s actions be willful in that the defendant knew or believed that his or her actions were likely to lead to the filing of a false return. The Ninth Circuit (the appeals court for Southern California and thus controlling precedent) has held that the government must prove not only that the accused knew that the conduct would result in a false return, but must additionally establish that tax fraud was in fact the objective of the allegedly criminal conduct.

The statute of limitations for the crime of aiding or assisting the preparation or presentation of a false return or other document is six years. The statute of limitations for charges involving delivery or disclosure of a false document starts to run from the date the document is disclosed or submitted to the IRS.

Examples of evasion of assessment type convictions of practitioners:
In United States v. Wilson, 118 F.3d 228 (4th Cir. 1997), the court considered the evidence that the government introduced against the defendant that he (the defendant) attempted to mislead the IRS or conceal the taxpayer’s assets. The court considered the following evidence, among others: (1) that the defendant “prepared and executed false, backdated notes;” (2) that he “participated in a meeting where he discussed removing money from [another’s] bank accounts in order to prevent the IRS from attaching the money;” (3) that he provided the IRS revenue officer misinformation; (4) that he “prepared numerous corporate documents for [various parties], knowingly named “strawmen” as officers and directors;” and (5) that he instructed someone “how to funnel money” from one person to another to make it look like one of the parties had made an investment when he had not in fact done so.

In R.J. Ruble, DC N.Y., 2009-2 ustc, a well-known attorney was convicted of income tax evasion for designing and marketing a tax shelter. The government proved that attorney either knew or alternatively consciously disregarded the fact that the tax shelter he designed and marketed lacked economic substance. There was no business purpose to employ the shelter other than to obtain a tax benefit, and that there was no reasonable probability that the shelter would result in any profit apart from the anticipated tax benefits.

Examples of evasion of payment type convictions of practitioners:
In R. Huebner, CA-9, 95-1 ustc a practitioner who routinely serviced tax protesters by drafted sham promissory notes and then claiming the fake debt on the protestor’s bankruptcy petitions to remove IRS wage levies was convicted of aiding and abetting attempted income tax evasion. The practitioner created false claims indicative of financial distress, with the purpose of frustrating the government’s collections under its levies. Convictions for conspiracy to defraud the United States were also sustained because the false assertions provided the required affirmative act with the intent to deceive the government.

A line of cases, with some variations among the circuits, have held that when a return preparers accepts checks from their clients with the understanding that the funds are to be used to pay the client’s tax liability, any diversion of the earmarked funds for the return preparers’ personal use coupled with a failure to pay the tax is a criminal attempt to evade tax.

Exposure of Tax Practitioners to “tax obstruction” under (§7212):
The crime known as “tax obstruction” is found in IRC § 7212, which actually lists several crimes. However, there is one clause in this statute—known as the “Omnibus Clause”—that is the focus here. An Omnibus Clause violation exists when someone (anyone) “in any way corruptly . . . obstructs or impedes, or endeavors to obstruct or impede, the due administration” of the tax laws. § 7212.

To establish a Section 7212(a) omnibus clause violation, the IRS must prove three elements beyond a reasonable doubt: (1) that the defendant made a corrupt effort, endeavor, or attempt (2) to impede, obstruct, or interfere with (3) the due administration of the tax laws (Internal Revenue Code). U.S. v. Wood, 384 Fed. Appx. 698 (10th Cir. 2010).

Exposure of Tax Practitioners to “aiding or assisting a false return” under IRC § 7206(2):
The crime known as “aiding or assisting a false return” is codified in IRC § 7206(2), which essentially makes it a felony for someone to “willfully aid . . . assist, procure, counsel, or advise” someone in the preparation of a document (e.g. a tax document) that is “materially” false.

Broken up into its elements, the government must prove five things, each one beyond a reasonable doubt: (1) the defendant aided, assisted, procured, counseled, or advised another in the preparation of a tax return (or another document in connection with a matter arising under the tax laws); (2) that tax return (or other document) falsely stated something; (3) the defendant knew that the statement was false; (4) the false statement was regarding a “material” matter; and (5) the defendant aided, assisted etc. another willfully (that is, with the intent to violate a known legal duty).

One thinks here of a CPA, enrolled agent, or other tax preparer who is trying to help his or her client pay less tax, but that person (the taxpayer himself or herself) was not involved in the tax preparation process. But the tax crime of aiding another to prepare a false document captures more than just CPAs and enrolled agents. It includes anyone who prepares false documents—for example, an appraiser who values a business interest for tax purposes, or a tax shelter promoter. An appraiser might have to discern the value of a partial interest in a business or other asset contributed to a charity. An inflated value would achieve a higher charitable deduction to the taxpayer, but if that value is not defensible, the appraiser could be charged with “aiding in the
preparation of a false return” under § 7206(2).

How to Help Your Clients Avoid Possible Criminal Tax Prosecution:

In a Criminal tax context, the CPA should be very diligent that the client does not share any information with the CPA in regards to possible criminal actions. The CPA should use zeal to make sure that the client does not put the CPA in a position where he or she can be a possible witness against the client. The client should be told to discuss the matter with a tax attorney at the first possibility of a fact pattern that indicates criminal tax exposure.

As a preparer, the CPA can help clients avoid criminal tax prosecution by knowing the procedures that the IRS uses to prosecute taxpayers. Most criminal tax investigations start as regular audits of returns in which the Examiner discovers possible taxpayer fraud.

The Internal Revenue Manual instructs IRS personnel on how to identify indicia of fraud during routine examinations. See IRM Part 25. The IRM instructs the agent to look for signs such as taxpayer or representative procrastination, uncooperative attitude, quick agreement to proposed audit adjustments or desire to immediately closing the case. Many other indicia of fraud, commonly called “badges of fraud” are identified in the IRM. Any one or a combination of these “badges of fraud” may then be interpreted as indicia of fraud and subject the taxpayer to a potential
fraud investigation.

Once a Revenue Agent decides that there is a high indication that fraud is involved in a civil examination, they will ordinarily contact employees within the IRS called Fraud Referral Specialists. The Fraud Referral Specialist’s job is to determine whether this is solely a civil issue in each examination, or whether the case should be referred to the Criminal Investigation Division for development for possible criminal prosecution. In the past, a Revenue Agent would suspend the audit without telling the taxpayer or the CPA the reason for the sudden and unexplained suspension. This made the seasoned and enlightened CPA’s job easy since the CPA would recognize the tell-tale signs that his client’s audit most likely has gone criminal. The seasoned and enlightened CPA would then consider withdrawing from the representation and refer their client to consult with a reputable criminal tax attorney.

However, in 2009, the IRS changed their fraud procedures in a very quiet manner by not publicizing the change and by instituting the use of parallel criminal investigations while the civil audit is still ongoing creating a dangerous scenario for both the CPA and his or her client. The Revenue Agents are instructed not to tell the taxpayer, or his representative that a criminal investigation has started or is ongoing. These types of audits are commonly called “eggshell audits” in the Tax Controversy Representation legal community.

This change in policy obviously makes the CPA’s representation in an audit much more critical in minimizing his or her client’s criminal exposure and thus creates much more malpractice exposure for the CPA. The CPA, now, more the ever, needs to be very diligent in regards to being cognizant of the additional risks faced by his or her client considering this policy change. CPAs should investigate for any issues in a client’s fact pattern that could turn criminal prior to the outset of a routine civil audit. If indicia of fraud is detected the CPA should advise the client of the possibility
that the issue may silently turn criminal during the civil examination and advise the client to consult with a tax attorney. It is also advisable that the CPA seek the counsel of an experienced tax attorney themselves about whether it is a good idea to continue representation considering all the facts of the case especially where the client refused to seek legal counsel.

Teaming up With a Tax Attorney to Solve a Current or Potential Client’s Criminal Tax Issues.

The CPA can still play a major and invaluable role in the context of the Kovel Agreement. The 2nd Circuit case US v. Kovel, basically established that a CPA or accountant call fall under the attorney-client privilege by having the attorney, rather hire the CPA, rather than being directly hired by the CPA. In Kovel, the accountant in questions was a former IRS agent, and he was hired by a law firm to advise the law firm’s clients. The clients were under IRS investigation, and they subpoenaed Kovel to testify against the clients. Kovel refused and he was sentenced to a year in prison. The 2nd circuit then overturned the decision, and stated that the accountant is privileged, if hired by the lawyer.

The Kovel agreement will protect all communications and work papers of the CPA from discovery by the IRS summons enforcement or production at trial, since now all these papers fall under the attorney work product doctrine.

The application of Kovel has been somewhat limited by the subsequent US v. Adlman case, where the court basically stated that the work product protection applies only to materials in anticipation of litigation. In Adlman, the corporation’s accountant prepared a study for the entity’s attorney, and the study basically assessed what the outcome would be in the event of a litigation, before the IRS ever audited the company. The trial court concluded that the main purpose of the report was not made in anticipation of litigation.

The court of appeals vacated and remanded the trial court’s decision, and basically stated that the documents included “mental impressions, conclusions, opinions and theories” and that it did not lose its protection as work product just because it was prepared as a business decision. Because of the nature of the study, which evaluated the tax implications and a large tax loss which would have resulted in a refund, litigation with the IRS was almost certain.

Another thing the 2nd circuit stated in Adlman is that the IRS also must make a showing that the documents are otherwise unavailable.

A CPA in his own practice may establish a Kovel relationship with an attorney. In the Kovel setting, the CPA will provide valuable services to the attorney in anticipation of any possible litigation.

Voluntary Disclosures

Another way in which the CPA and attorney may team up is through voluntary disclosures to the IRS. In a voluntary disclosure, the client will come into your office, state that he cheated on his taxes, but that he wants to make things right.

Once again, the CPA’s first responsibility will be to tell the client to not discuss the matter with the CPA, and consult a tax attorney. Although the purpose of the voluntary disclosure is to prevent cases from becoming criminal, a tax attorney needs to be consulted for various reasons. First, the attorney will need to identify whether the client is eligible for a voluntary disclosure. The attorney needs to contact the IRS with the client’s information and do a “pre-check” to see whether the client can enter the voluntary disclosure process. If the client is accepted in the pre-check stage, the voluntary disclosure can begin. If the client is not accepted, it may mean that a criminal investigation has already begun.

In the voluntary disclosure process, the attorney will use the services of the CPA to amend all false and incorrect previous returns and submit these returns with the extra income, and the penalty calculation associated with the disclosure to the IRS.

Bitcoin Tax Record Keeping

If a client has Bitcoin Income, Advise Them of the IRS Tax Record Keeping Requirements
If a client has taken an interest in Bitcoin due to the underlying technology, due to customer demand, or because it seemed like a good investment opportunity, there are certain record keeping requirements taxpayers must satisfy. While the exact records taxpayers keep, and submit to the IRS will vary based on their use of Bitcoin, we can examine a few typical cases to illustrate the various records that a taxpayer must keep to maintain compliance.

When Bitcoin is Used to Pay Employees, Advise Your client That They Must Keep Their Payroll Tax Records
Some businesses may elect to pay employees in the form of Bitcoin. Paying employees in Bitcoin or other digital currencies does not relieve a business owner and responsible parties of their obligation to account for, collect, hold, and pay over payroll taxes. As tax preparers, you need to advise your clients, to keep employment tax records for a minimum of four years. However, when records are connected to property, the IRS states that records should be kept until the period of limitations expires for the year in which the taxpayer disposes of the property.

Your Client has Received Bitcoin as Income, What Records Do They Need to Keep?
If your client was paid in Bitcoin for services performed and is not an employee, it is highly likely that the client will need to account for capital gains, income tax, and self-employment taxes. While basic details for capital gains and income tax are set forth above, a self-employment obligation can be reported via Schedule SE of IRS Form 1040. Tax preparer can utilize the 1099 provided by your client’s employer to determine the correct numbers to report. Once again, since the reporting is connected to property, it is prudent to advise your clients to keep records for the latter of four years or until the period of limitations expires for the year in which the taxpayer disposes of the
property.

Can a tax professional Appeal a Bitcoin Tax Determination by the IRS on behalf of a client?
If a client’s Bitcoin tax issue has already been assessed by the IRS, the agency may have launched an audit. The audit may uncover an array of tax improprieties that result in additional tax due. Alternatively, the IRS may have decided to impose additional tax due to a failure to pay capital gains taxes, employment taxes, self-employment taxes, income tax or other tax obligations related to Bitcoin and other virtual currency — with interest — due to the alleged tax compliance failures by your client.

The appeal of IRS tax determinations is typically available. However, the exact form of appeal that is available will depend on where in the assessment and collection process is your client’s matter. Please do your research before filing an appeal because certain appeal options can limit the taxpayer’s ability to file a further appeal in the federal courts.

A Client’s Right to Appeal Unfavorable Bitcoin and Other Tax Determinations.

If a client disagrees with the conclusion reached by the IRS, your client has the right to file an appeal. However, strict time limits apply. Taxpayers who fail to file a timely appeal may lose their ability to do so.

However, in general, following the IRS audit and subsequent determination, your client will receive a written letter setting forth the taxpayer’s appeal rights. The 30-day letter will set forth the IRS’s determination and the taxpayer’s right to appeal. Your client should respond to this letter, but if he or she does not, a 90-day Notice of Deficiency will be issued to the taxpayer.

Should a client decide to appeal to Tax Court, the taxpayer or an attorney licensed to practice in Tax Court may elect to file for a small case review. Small case review is available when the amount in controversy is $25,000 or less. Additional appeal options are also available including an appeal in federal court.

The Collection Process Is Also Subject to Appeal

If your client’s matter has already moved beyond the assessment phase and the IRS is attempting to collect on the debt, collection appeals are often available. Collection appeals options include Collection Due Process (CDP) and the Collection Appeals Program (CAP). Each appeal program has a different focus and can impact your client’s subsequent appeal options.

What Happens if the IRS Thinks a client is using Bitcoin to Commit Tax Evasion?

In recent years, many people have become interested in emerging financial applications of cryptography and decentralized peer-to-peer networking. While the first digital currency to leverage these and other technologies, a score of competing cryptocurrencies have since emerged on the scene. Some of the benefits of Bitcoin and similar technologies include:

  • There is no bank, credit card processor, or other middleman to take a cut of the payment.
  • Transactions are verified and authenticated before money is ever transferred.
  • Users do not need access to special hardware, payment cards, or other single-purpose devices to use cryptocurrency.
  • User’s identities are protected to a certain extent.

The last bullet point is particularly noteworthy. While Bitcoin and similar digital currencies are often advertised as “anonymous” the fact of the matter is that this generally refers to the fact that people can send and receive money without directly revealing personally identifiable information.

However, far too many people misinterpret that last point and believe that once money is “in” Bitcoin, it is invisible to the IRS and U.S. government. This is a faulty assumption by your clients can lead to an audit, tax enforcement actions, and even criminal tax evasion charges.

Bitcoin Does Not Provide Perfect or Reasonable Anonymity in Many Scenarios
Bitcoin functions by making a public ledger containing all transactions ever conducted available. Thus, by nature, all transactions are publicly available. Thus, there is no such thing as a “private” Bitcoin transaction. Rather, a level of anonymity is preserved by disassociating a user’s identity
with the public transaction – however a record of the transaction time, amount, and other information is always kept publicly. The problem that exists is when users sign up with popular Bitcoin wallet services, their identity is revealed in an e-mail. For users who use Bitcoin in this method, it is no more anonymous or private then a bank transaction.

The IRS Is Using John Doe Summons to Unmask Cryptocurrency Account Holders
The IRS is aware of this potential vulnerability in the Bitcoin security and anonymity model and is attempting to leverage it to reveal the identity of all customers of the largest Bitcoin exchange, Coinbase. The summons requests “the identities of United States Coinbase customers who transferred convertible virtual currency at any time between December 31, 2013, and December 31, 2015.” This tactic was used to successfully crack down on UBS, offshore tax evasion, PayPal, and a number of credit card companies.

By sending the John Doe summons, the IRS seems certain that it will uncover at least some individuals engaged in tax evasion because the summons profess a reasonable basis for believing that United States taxpayers have failed to comply with the internal revenue laws.

What you should advise a client to do if he/she had a Coinbase or Bitcoin Wallet Account in 2014, 2015, or 2016 and Failed to File and Pay Taxes?

If a client had a Coinbase account or otherwise mined, held, traded, or engaged in transactions involving Bitcoin, it is essential that steps are taken to mitigate the potential consequences your client faces and he/she may need to file an FBAR. This may include amending past tax returns, filing missed returns, or making a voluntary disclosure. The IRS has already taken steps to identify those taxpayers who are utilizing Bitcoin and cryptocurrency to commit tax evasion. As the IRS continues to gather information from an array of domestic and international financial institutions, it is highly likely that it will become increasingly aggressive in its enforcement activities. Again, it is important for the CPA to know when to “punt” to a tax attorney on this issue.

Potential Penalties a client can face for a Failure to Pay Bitcoin Capital Gains Taxes

When filing taxes, a taxpayer will be expected to provide adequate documentation supporting his or her calculations. A failure to keep and provide records could lead to facing penalties under IRC Sections 6721 and 6722. A failure to calculate capital gains can also lead to accuracy related penalties under 26 U.S. Code § 6662 – Imposition of accuracy-related penalty on underpayments. In scenarios where it appears that the taxpayer is willfully engaged in systematic tax fraud, the IRS is likely to refer the matter to IRS CI for work-up to criminal prosecution. In situations like these, the Bitcoin trader, (your client) could even face felony tax evasion charges carrying a federal prison sentence.

Is your client’s Bitcoin Mining Operation a Business or a Hobby?
Regardless as to whether your client considers their bitcoin mining a business or a hobby, your client will need to pay self-employment tax when their net self-employment income is greater than $400 in any tax year. However, if the IRS determines that your client’s bitcoin mining activities
constitute a business, your client may be able to reduce their tax liability through tax deductions and credits for business expenses. This option is not available if the IRS considers your client’s operations to merely constitute a hobby. However, the criteria the IRS uses to determine whether an activity constitutes a for-profit business may produce unexpected results for taxpayers who do not familiarize themselves with the criteria. For instance, any activity that has turned a profit in at least three of the last five tax years, including the current year, is presumed to be a for-profit business whose losses can be used to offset other income.

The fact is regardless of whether your client sets out to make money or was simply in the right place at the right time, your client will need to pay taxes on their income. Due to the nature of many bitcoin mining operations, there is a reasonable to high likelihood that bitcoin miners are required to pay self-employment taxes.

How Does a Business Determine Its Taxes When Paid in Bitcoin?
Some business, most often online business, accept Bitcoin and other forms of virtual currency as payment for goods provided or services rendered. Many businesses feel that offering this method of payment can only help by attracting customers who do not have credit cards, debit cards, or other electronic means of payment. However, Bitcoin and other virtual currencies receive unique tax treatment. Despite frequently being utilized as a medium for exchange, the IRS taxes Bitcoin as property rather than as currency. This results in unique tax treatment that can trip-up even sophisticated business owners.

What Happens When a Customer Makes Bitcoin Purchases?

Since Bitcoin is treated as a type of property, when a customer or client makes a purchase or provides remuneration in the form of bitcoin gain and loss is triggered on both sides. That is, both the business accepting the payment and the business or individual paying in bitcoin are likely to have a reportable tax event as a consequence of this transaction.

This is because the value of a bitcoin will vary over time meaning that most transactions involving Bitcoin will necessarily involve considerations of capital gain and loss. For instance, consider an individual who bought a Bitcoin in the early days, prior to 2014, for $50. When the individual sells that Bitcoin or uses it to pay for a good or service, he or she will be quite happy to learn that at the time this was written 1 Bitcoin was worth roughly $700. Thus, in this example, the seller would realize a capital gain of about $650 at the time of the transaction. Tax is due on the realized capital gain.

On the seller’s side, the business has now accepted a Bitcoin currently valued at $700. Thus, the company has realized $700 in gross income subject to costs and expenses. However, it is absolutely essential for the business to keep a record of the Bitcoin’s fair market value at the time of the transfer. When the business engages in a subsequent transfer involving that bitcoin, it will need to determine its capital gains or loss on the basis of the price at the time of the subsequent transfer. The most important takeaways for tax professionals to advise their business owner clients are to:

  • Recognize that bitcoin gives rise to additional capital gains tax considerations.
  • Ensure that adequate records are kept so all tax obligations can be satisfied.

What Can Happen When a Client Fails to Keep Records and Pay Taxes on Bitcoin Transfers?
In the most basic sense a failure to properly account for the tax obligations relating to the acceptance of bitcoin can result in significant unsatisfied tax obligations, penalties, and interest. However, the failure to account for this obligation often results in less than optimal business tax planning. Depending on market conditions, the method of basis accounting can have a profound impact on the company’s overall tax liability. Furthermore, in certain scenarios, self-employment income and tax obligations may arise.

The worst-case scenario involving a failure to account and pay all tax on bitcoin transactions involves the IRS interpreting the actions as criminal tax evasion. The IRS is aware that due to pressures applied in the offshore tax enforcement area through FBAR and FATCA, some individuals explored Bitcoin as a means to conceal income and assets. Since Bitcoin is decentralized and not generally subject to government oversight, the IRS recognizes the potential for abuse and proceeds aggressively. Taxpayers who make mistakes regarding Bitcoin risk getting caught up in the IRS dragnet and facing serious tax penalties.

Can your client Face Tax Penalties for Mistakes Made with Bitcoin?
The allure of Bitcoin as a potential next step in payment methods and systems can blind even sophisticated individuals to the tax obligations that might arise due to their use. Unfortunately, individuals who engage in financial and other transactions without first considering the tax implications and consequences of such actions are likely to make mistakes and errors. These mistakes and errors often open the door to an audit and facing significant new tax liability, fines, and penalties. In extreme situations, the taxpayer may be accused of committing tax crimes, like tax evasion, that carry a federal prison sentence.

Your client’s Failure to Handle Bitcoin Tax Obligations Can Result in Punishment
The IRS is targeting Bitcoin transactions and assets due to the potential for abuse by taxpayers that is presented by this technology. The IRS is well aware that some taxpayers may be attempting to use Bitcoin to conceal income and assets thereby illegally reducing their tax liability. As such, the IRS has taken a particularly aggressive stance against potential Bitcoin-based tax fraud announcing that penalties can apply to all taxpayers – even those taxpayers who only engaged in noncompliance prior to the release of IRS guidance on March 25, 2014.

Bitcoin Errors Can Result in Tax Accuracy Penalties under IRC 6662
26 U.S. Code § 6662 – Imposition of accuracy-related penalty on underpayments, states that for certain underpayments of tax an additional penalty of up to 20 percent of the unpaid liability can be assessed. For instance taxpayer negligence, mistakes regarding valuation of property or liabilities, and undisclosed foreign financial assets are all grounds where § 6662 authorizes an additional penalty.

Furthermore, a substantial underpayment of tax can also trigger additional penalties under Section 6662. A substantial understatement of tax occurs when there is an understatement of tax of exceeding the greater of exceeds the greater of 10 percent of the tax required to be shown on the return for the taxable year, or $5,000.

Your client’s Failure to Report Virtual Currency Transactions Can Also Result in Punishment
Since Bitcoin is characterized as property for tax treatment purposes, it is possible to realize capital gains and losses. Therefore, making and maintaining adequate records that track the value of the asset over time are essential to any adequate tax handling. Taxpayers who fail to make and keep these records may be subject to punishment under IRC Sections 6721 and 6722.

IRC § 6721 sets forth the penalties and punishments for taxpayers who fail to file correct and accurate informational returns. Furthermore, §6722 sets forth the punishments that can be imposed when a taxpayer fails to furnish correct and accurate payee statements. While the foregoing penalties can be imposed for Bitcoin tax mistakes, the consequences faced can often be mitigated through a show of reasonable cause.

The IRS May Advance Tax Evasion Charges for Bitcoin Errors
If your client’s activities and practices show a pattern of noncompliance, willfulness, or other signs of tax fraud it is possible that their matter may be referred to IRS Criminal Investigations. Your client may end up being charged with criminal tax evasion. As a felony, tax evasion carries a federal prison sentence along with harsh financial penalties. Even if your client did not intend to commit tax evasion a series of unexplained transactions, misstatements, and other potential indicators of fraud may convince the auditor that a closer look is required.

California Man Makes More than $1 Million Through Bitcoin Home Purchase.

Many people are somewhat perplexed when they find out that the IRS does not consider Bitcoin to be currency. After all, isn’t Bitcoin a medium of exchange that is typically utilized to buy and sell goods and services? While the use of Bitcoin does often closely mirror the use of cash, credit cards, and other common methods of payment there are important differences that distinguish Bitcoin (and similar forms of electronic currency) from cash and other forms of currency.

For one, while Bitcoin is often used like cash, it is not regulated or otherwise controlled by a national treasury or other governmental or quasi-governmental agency. Furthermore, the supply of currency can typically be manipulated by the Treasury. In Bitcoin, the supply of bitcoins is finite and set per a predefined algorithm. Finally, unlike cash, Bitcoin is not legal tender. Unfortunately, these differences are rather abstract and it is often difficult for people to conceptualize this difference. The following scenario is mean to highlight how Bitcoin is different from cash and other forms of currency and the tax obligations these differences can create.

Is Bitcoin or a Bitcoin Wallet Reportable for Purposes of FBAR, FATCA?
Over the course of the last several years, Bitcoin has moved from something of a promising curiosity to a technology that many see as applicable to an array of industries and endeavors. At the heart of Bitcoin and similar digital currencies, such as DogeCoin and Etherium, is a concept known as the block chain. The block chain is essentially a digital equivalent of a public ledger. The public ledger contains a record of all transactions carried out within this blockchain. Computers that contribute resources to the blockchain continually check the propriety of transactions by computing hash values. The open, public, and verifiable nature of a blockchain means that future applications could range from financial and banking transactions at major international financial institutions to recording deeds and other public or private records.

However, the blockchain and, by extension, Bitcoin are still primarily a means of storing value digitally. As an application of the blockchain that straddles the line between currency and property, the use of Bitcoin can have tax and tax reporting impacts. Tax professionals can help taxpayers who mine Bitcoin, hold or conduct transactions in Bitcoin, avoid potentially costly mistakes regarding failures to report Bitcoin assets.

What Are the FBAR and FATCA Reporting Obligations?

The obligation to file a Report of Foreign Bank Account (FBAR) is found in the Bank Secrecy Act. While the duty to file FBAR has long been enshrined in U.S. law, the obligation was largely ignored for the early portion of its existence. However, in the mid-2000s, Congress amended the Bank Secrecy Act to include penalties for non-compliance. When taxpayers fail to report FBAR – even accidentally – they are subject to a potential penalty of up to $10,000 per a violation. When IRS agents believe that noncompliance was willful in nature, penalties escalate to the greater of $100,000 or 50 percent of the account balance. The duty to file FBAR exists any time the aggregate balance in covered foreign accounts exceeds $10,000.

The duty to file FATCA was established through the Foreign Account Tax Compliance Act passed by Congress in 2010. Penalties are also harsh for failures to comply with this informational reporting law. Unlike FBAR, there is no bright-line rule setting forth when a taxpayer must file. Rather, a taxpayer must first determine his or her tax filing status and residency. Depending on these factors, the taxpayer will be able to hold different amounts of foreign assets before a duty toreport is triggered. In general, married taxpayers filing jointly and living abroad can control the most assets before they are required to report. In contrast, sole filers who live in the United States can hold the least foreign assets before he or she incurs an obligation to report.

Taxpayers can be obligated to report a single account on both FBAR and FATCA. Reporting an account under one regime does not satisfy the independent duty to report under other offshore disclosure laws. FBAR obligations are properly reported through a timely filing of FinCEN Form 114. FATCA obligations are satisfied by a timely filing of IRS Form 8938.

A obligations are satisfied by a timely filing of IRS Form 8938.
What Does Virtual Currency Have to Do with Foreign Accounts and Taxes?

While we characterize Bitcoin as “digital currency” above and this is the fashion that people are most accustomed to thinking about Bitcoin, this does not comport with how the IRS views Bitcoin. In IRS Notice 2014-21, the IRS indicated that it was aware of “virtual currencies” and the ways in
which people typically utilized these currencies. The IRS announced that despite people’s propensity to treat Bitcoin as a currency in certain scenarios, Bitcoin would be treated as property for federal tax purposes.

To understand what Bitcoin must do with foreign account reporting obligations, first, consider the different ways one can store Bitcoin. A user of the currency could print out his or her full or partial bitcoin and carry it around like cash in his or her wallet or purse. The user could also store his or her Bitcoins in a digital account known as a Bitcoin wallet.

This distinction is important because hard currency, real estate, precious metals held directly, personal property, and certain covered benefits programs are not reportable for purposes of FBAR or FATCA. However, once these assets are placed in a foreign financial account, they become reportable for purposes of FBAR and FATCA. Since users of Bitcoin can place the value of their Bitcoins in an account that may be held overseas, this would seem to be an area of some concern.

Second, also consider the tax nature of property versus that of currency. When an item is considered property for tax purposes the concepts of capital gains and capital loss must be accounted for. When Bitcoin gains in value during the time a person holds it, the gain in value must be computed and reported. Typically, there will also be tax due on the gains in the form of the capital gains tax.

What Guidance Has the IRS Issued on the Potential Duty to Report Bitcoin for Purposes of FBAR and FATCA?

Considering the potential penalties that can be imposed for FBAR and FATCA compliance failures, the IRS’s guidance on the issue cannot be described as anything but anemic and inviting tax controversy. In 2014, Rod Lundquist, a senior program analyst for the Small Business/Self-
Employed Division indicated that the IRS would not require Bitcoin to be reported as part of FBAR. He elaborated by adding that that “FinCEN has said that virtual currency is not going to be reportable on the FBAR, at least for this filing season [emphasis added].” The IRS later clarified this statement in response to a reporter’s inquiry. It clarified that virtual currency accounts also fell under the non-reportable guidance.

Despite the unofficial nature of this guidance, this is still the only statement taxpayers must guide their offshore account reporting. And this statement was explicitly limited to the context of a single tax filing year.

Recent enforcement actions taken by the IRS may suggest the possibility that the IRS is reconsidering its approach to Bitcoin and foreign account informational disclosures. In November 2016, the IRS filed a John Doe summons seeking information relating to U.S. account holders who had Coinbase Bitcoin transactions between 2013 and 2015. The IRS’s summons states that it is “responsible for monitoring ways in which United States taxpayers evade their United States tax obligations.” In the subsequent paragraph, the IRS suggests that use of digital currencies makes the user “subject to fewer third-party reporting requirements.” This language would seem to suggest that at least some users have adopted virtual currency because they believe they can avoid
reporting requirements potentially including FBAR and FATCA.

How Should you advise a client to Approach this Uncertainty Regarding Bitcoin and Taxes?

It has been over three years since the Internal Revenue Service released guidance on the tax treatment of bitcoin and other virtual currency. Although the IRS made it very clear in Notice 2014-21 that virtual currencies are property for U.S. federal income tax purposes, there are plenty of questions that have been left unanswered. Considering that the IRS expects taxpayers to comply with federal tax laws and to treat bitcoin and other virtual currency thereunder, it is concerning that there are so many unanswered questions that could end up causing a taxpayer to inadvertently fail to comply with federal tax laws. Dealing for or in a virtual currency should prompt a consultation with a bitcoin and virtual currency tax attorney.

FBAR Inclusion – Fincen Form 114 and Cryptocurrency?
Foreign Bank Account Reporting (FBAR) laws require that Americans with foreign financial accounts with combined balances of $10,000 or more report the existence of those accounts to the government on a yearly basis. The IRS has indicated that even money that is not in foreign bank accounts may be subject to FBAR requirements if the requisite dollar amount is held in other types of accounts like online casino accounts based in a foreign country.

Although FBAR laws only apply to currency (and thus assumedly does not apply to virtual currencies), the IRS and Department of Justice have made a push to gain more insight as to who owns virtual currency, particularly bitcoin. The Department of Justice recently issued a “John Doe” summons to Coinbase, a virtual currency trading company. The summons demands that Coinbase turn over records of all of those who have bought or sold bitcoin. This action was undoubtedly taken for enforcement purposes. Whether the IRS and DOJ will begin to target owners of virtual currency for FBAR violations is yet to be seen, but one thing is for sure: the IRS is aware that taxpayers are not reporting dispositions of virtual currencies and they are actively taking steps to catch them. It may be only a matter of time until efforts are expanded to encompass foreign virtual currency holdings.

Taxpayers face an array of tough choices when it comes to protecting themselves against potential future liability because of a failure to report Bitcoin on FBAR or FATCA. Different circumstances may suggest or require different handling. Know your clients, and be knowledgeable of their options because taxpayers typically have different preferences when it comes to acceptable levels of risk.

At the more conservative end of the spectrum of potential approaches, taxpayers could align their handling of Bitcoin to comport with that of gold, hard currency and real estate. That is, these assets are generally not reportable for foreign account purposes when held directly, but become reportable when they are stored in a foreign financial account. Under this type of approach, a taxpayer who carries around a printed Bitcoin would not report Bitcoin for purposes of FBAR or
FATCA. However, a taxpayer who has placed the value of his or her bitcoin in a virtual wallet hosted overseas should include Bitcoin for purposes of aggregation and reporting. This type of approach would, at the least, provide the taxpayer with a reasonable approach to an unsettled issue.

At the more aggressive end of the spectrum, taxpayers could continue to apply the statements made by Rod Lundquist back in 2014 to the current tax year. Consult with your clients before they adopt this or any other approach to satisfy FBAR or FATCA duties.

As taxpayers, have become more accustomed to foreign disclosure obligations, the IRS has expanded tightened up reporting procedures. Furthermore, the IRS has stated that it reserves the right to make voluntary disclosure programs, through which taxpayers can mitigate offshore penalties and consequences, less favorable. Considering the recent enforcement actions targeting Bitcoin users for suspected tax evasion and offshore tax fraud, it is only a matter of time before the IRS further tightens the offshore tax reporting regimes.

Valuation
One of the vague pieces in the guidance of Notice 2014-21 is specific information surrounding the valuation of virtual currency. The Notice requires that taxpayers value virtual currency in a “reasonable manner that is consistently applied”. Although seemingly easy enough, there is no official valuation authority for bitcoin and most other virtual currency. Instead, various websites across the internet update exchange rates throughout the day. A simple Google search can evidence the fact that each bitcoin valuation estimate varies from one website to the next, making it extremely difficult for a taxpayer to measure the value of their virtual currency at the time of its disposition. Furthermore, taxpayers have not received guidance as to whether averaging valuations can be an appropriate valuation manner.

Another consideration regarding valuation is timing. Notice 2014-21 does not indicate if there is a particular time of day that virtual currency should be valued at. The fair market value of a unit of virtual currency will need to be determined at least twice, once upon acquisition (to determine basis) and upon disposition (to compare with the basis to compute gain). Unlike other property with market values that tend not to fluctuate nearly as much as virtual currency, the time-of-day delineation is less of an issue. But with bitcoin, along with other virtual currencies, there can be a large fluctuation between the morning and evening.

Expenses Related to Acquiring Virtual Currency:

Many virtual currencies, such as bitcoin, enter the market through the mining process. Said simply, powerful computers solve increasingly complicated mathematical equations (“mining”) that are used to authenticate the validity of outstanding virtual currency. In exchange for the calculations, the owner of the computer receives virtual currency. IRS guidance has been quiet as to how the costs associated with mining virtual currencies are treated from a tax perspective.

Generally, taxpayers that produce a piece of property include the costs to produce or to acquire it on the basis of the particular property. Thus, if the mining of virtual currencies were considered to be a production activity, taxpayers would include the costs of the mining operation on the basis of the virtual currency. Notice 2014-21 appears to treat virtual currency mining as a service activity as it states that gross income is realized at fair market value when the virtual currency is received. This guidance appears to treat virtual currency mining as a service activity whereby a taxpayer is rendering a service and receiving payment in virtual currency. Under such a service-based approach, costs related to mining would likely be expensed when incurred.

Emerging Regulations Create Tax and Regulatory Framework for Bitcoin and Other Cryptocurrencies:

With cryptocurrencies and other blockchain currencies becoming more and more popular, the amount of money that goes into these currencies grows each day. This also means that more and more currencies are becoming problems for security breach, money laundering, banking privacy, and other securities regulations. Recent documents released this summer by the Securities Exchange Commission (SEC) and other US regulatory agencies have thrown new light on how Bitcoin and other coin and blockchain currencies will be regulated going forward.

States Passing Laws Addressing Blockchain, a Cryptocurrency Technology: Several states around the country have enacted laws or have issued guidance focused on the legitimacy of blockchain as a legal record evidencing a transaction. Although the new blockchain legislation is not directly related to cryptocurrency, the state governments’ actions show that authorities are aware of emerging technologies and their legal implications. This also means that tax authorities are keenly aware of the large amount of transactions involving virtual currency and will be enforcing tax laws on all virtual currency transactions, including the exchange of bitcoin.

Recently, Nevada and Arizona have passed laws that prevent local governments from charging for the use of blockchains, whether through taxes or fees. Furthermore, governments in those states cannot require additional documentation such as permits, certificates, or licenses to use a blockchain. Finally, the law recently passed in Nevada states that if a transaction/event must be recorded, the electronic creation of a block in a blockchain is sufficient.

Washington State:

In Washington State, Virtual Currency included in the definition of “money transmission” in the uniform money services act.

http://apps.leg.wa.gov/rcw/default.aspx?Cite=19.230

Companies wishing to transmit money (via Crypto) for Washington state residents must contact the Washington Department of Finance and get a determination if licensing under the Uniform Money Services Act is required. If so… requires a License…

California:

California AB-1326 “Digital Currency” – Required to register with CA Commission of Business Oversight or be considered exempt under the CA Money Transmission Act. Must maintain a bond set by the state. AB-1326 creates a Digital Currency Business Enrollment Program (DCBEP) and is granted the power to regulate digital currency in CA. Bill prohibits the engaging in a digital currency business without enrolling in the DCBEP or via conducting business through an unenrolled agent. Fingerprints that will be provided to law enforcement required. All enrollees examined to be of good character in order to receive a license. Enrollees into the DCBEP required to provide audited financial statements on an annual basis.

California bill proposes licensing requirements for bitcoin business.

http://www.coindesk.com/california-bill-license-require-bitcoin-business/

California Department of Financial Institutions issued a cease and desist against Bitcoin Foundation in May of 2013 in an attempt to forbid them from making any transactions with California because they were not officially registered with CA as a money service business.

New York:

New York Regulation of Virtual Currencies by the Superintendent of Financial Services.

Defines virtual currency business as having the following types of activities.

  1. Receiving or transmitting virtual currency except where for non-financial purposes or where nominal value at issue.
  2. Storing or holding virtual currency for others
  3. Buying and selling virtual currency as a business
  4. Controlling administering or issuing a virtual currency

Note: development and dissemination of software in and of itself does not constitute a virtual currency business

Cannot run a virtual currency business in New York without first obtaining a License.

Merchants and consumers that utilize virtual currency as a means to sell or purchase goods or for investment purposes – exempt from licensing requirements.

Each licensee required to maintain and enforce a written policy designed to prevent fraud, money laundering, provide cyber security, privacy and information security. Maintenance of specified amount of capital acquired set by state of N.Y. Must submit to examination upon request.

New York’s BitLicensing program probably a good start to a best practices compliance requirements.

https://en.wikipedia.org/wiki/BitLicense

These regulations define virtual currency business activity as any one of the following types of activities:

  • receiving virtual currency for Transmission or Transmitting virtual Currency, except where the transaction is undertaken for non-financial purposes and does not involve the transfer of more than a nominal amount of virtual currency;
  • storing, holding, or maintaining custody or control of virtual currency on behalf of others;
  • buying and selling virtual currency as a customer business;
  • performing Exchange Services as a customer business, or;
  • controlling, administering, or issuing a virtual currency.

But, the 2 following activities are excluded from the definition of virtual currency business activity:

  • development and dissemination of software in and of itself;
  • merchants and consumers that utilize virtual currency solely for the purchase or sale of goods
    or services or for investment purposes.[4]

TIGTA Urged the IRS to Crackdown on Bitcoin:

In September 2016, TIGTA issued a report titled As the Use of Virtual Currencies in Taxable Transactions Becomes More Common, Additional Actions Are Needed to Ensure Taxpayer Compliance, Reference Number 2016-30-083, Sept. 21, 2016. In the report, TIGTA wrote that taxpayer use of virtual currencies, like Bitcoin, had expanded significantly in recent years. The report reflects TIGTA’s belief that while there are legitimate reasons to use virtual currency, some taxpayers are attracted to the ostensible anonymity that the platform can offer. TIGTA believes that many people are attracted to this sense of anonymity because they wish to engage in illegal acts or transactions including tax evasion.

TIGTA’s report noted the IRS’s Notice 2014-21, Virtual Currency Guidance report and the establishment of its virtual currency team. However, the report concluded that the IRS divisions had failed to coordinate and none had developed “compliance initiatives or guidelines for conducting examinations or investigations specific to tax noncompliance related to virtual currencies.” Thus, TIGTA recommended for the IRS to develop a coordinated virtual currency strategy to identify and prosecute this emerging form of tax evasion. It appears that this strategy was developed and is now being implemented by the IRS.

IRS Investigations of Virtual Currency May Ramp Up After Congressional Testimony

In June 2017, the House of Representative’s Financial Services Committee heard testimony from a panel regarding the potential dangers of cryptocurrency. The expert panel discussed how cryptocurrency can be used to perpetuate crimes and how even national security can be placed in jeopardy. The testimony is particularly ripe as many of the ransomware viruses that have circulated around the Internet in the recent weeks have relied on cryptocurrency such as Bitcoin as the exclusive currency by which to pay a ransom to retrieve data that has been held digitally hostage.

Witnesses on the panel agreed that the larger security threat wasn’t with virtual currencies such as Bitcoin themselves, but rather with the unlicensed and unregulated virtual currency exchanges outside of the United States and Western Europe. Furthermore, the panel of experts stated that the greatest danger to society occurs when criminals deal with virtual currency for illicit purposes within the unregulated exchanges.

A common misconception among those using Bitcoin or other virtual currencies as a part of criminal activities is that it is a trace-free way to transfer money or to make purchases. In reality, cryptocurrency is becoming one of the most traceable ways to transact. Startup companies like Elliptic are working with law enforcement to track the identity of those behind online transfers of Bitcoin and other virtual currencies that are suspected of being connected to criminal behavior.

The position of the IRS is that virtual currency such as Bitcoin is property. Taxpayers obtain a cost basis in the virtual currency when they purchase it or exchange something of value for it. When the taxpayer disposes of the virtual currency, gain is realized and recognized to the extent that the fair market value of the consideration received exceeds the taxpayer’s basis in the virtual currency. The IRS announced recently that they believe that only a few hundred taxpayers reported gains from the disposition of virtual currency annually and that many taxpayers are failing to report such gains. It is the goal of the IRS to get a glimpse of Coinbase’s number of users and their users’ transactions of virtual currencies that may have given rise to taxable gain.

Uncoordinated Potpourri of Federal Enforcement Actions applicable to Cryptocurrency:

How the SEC Regulates Cryptocurrency:

Most cryptocurrencies function based on a system of mining which involves third party’s building a piece of code, and expending resources to create that code, the end result is the creation of a new “coin”. As the code changes hands, calculations are performed to ensure the transfer was correct and appropriate, and to add new blockchains to the code. The Securities and Exchange Commission (SEC) decided in July that these coins, like stocks, are covered under their rules and regulations.

This means that sale, transfer, and conversion of cryptocurrency coins may be held to the same standards as other securities and stocks, which the SEC oversees. This means that coin offerings must now be registered with the SEC, or else they could violate federal regulations.

At the same time, it is unclear if this position of the SEC will be strictly enforced. The SEC stated that the “Distributed Anonymous Organization,” which held its coin offering in July, may have violated SEC regulations in doing so. At the same time, it does not appear that they are doing anything to enforce future compliance or punish the organization for noncompliance.

Ultimately, going forward, this means that the SEC will regulate crypto coin offerings in some of the following ways:

  • The SEC may require registering coin sales as the sale or exchange of securities.
  • All tokens may have to be registered and follow SEC regulation unless they fall into an
    exemption.
  • Crowdfunding regulations must be followed for crowdfunded coins.
  • The professionals and investment managers that deal in cryptocurrency must be appropriately registered or licensed.

Failing to follow SEC regulations could put your client’s at risk of regulatory enforcement, resulting in penalties or effectively preventing additional transactions. In worse case scenarios, purposely failing to follow SEC regulations could be charged criminally.

Offering cryptocurrency to the general public without registering with the SEC where cryptocurrency is treated as a security = securities fraud.

https://en.wikipedia.org/wiki/Securities_fraud

Securities fraud conducted through the telephones / internet (interstate instrumentalities) is wire fraud…

See: https://en.wikipedia.org/wiki/Mail_and_wire_fraud

Creating an online portal to trade bitcoin and litecoin without first registering the service as a broker dealers or stock exchanges.

Cryptocurrency itself not a “security” but entities that own or trade virtual securities are securities requiring registering with SEC – Providing returns based on investments in digital currency qualifies as a security for SEC regulation purposes.

SEC has created multi office Digital Currencies Working Group on 8/30/13 and it has 50 SEC agents

Big issues with Crypto – money laundering, Ponzi Schemes, Unregistered Security with SEC / Securities Fraud

US Dept of Justice has formed Global Illicit Finance Team (GIFT) – consists of Investigators from the U.S. Attorney’s Office, Secret Service, Immigrations and Customs, Dept. of Justice’s Asset Forfeiture and Money Laundering Section Gift Shut down Liberty Reserve which operated a 6- Billion-dollar currency system used to aid and abet money laundering.

Digital Securities classified as “money” for purposes of SEC act because can be used to purchase goods and service, pay for living expenses and to purchase other securities and therefore regulatable under the SEC as a security. SEC v. Trendon Shavers and Bitcoin Savings and Trust – Sharers convicted for running a Ponzi Scheme and ordered to pay 40 million in disgorgement and penalties.

https://h2o.law.harvard.edu/cases/4293

May have to register with the SEC as the operator of an Alternative Trading System, and with SEC and FINRA as a broker dealer.

https://www.sec.gov/rules/proposed/34-39884.pdf

http://www.finra.org/industry/standards-admission

General lack of clarity with respect to regulation of digital assets and blockchain technology. No SEC regulations on digital assets but regulated the same as traditional assets. Only a limited number of enforcement actions that provide very limited degree of regulatory guidance.

May have to register as a financial technology company with SEC (FINTECH)

https://en.wikipedia.org/wiki/Financial_technology

Possible regulation by Federal Trade Commission FTC

https://www.ftc.gov/search/site/cryptocurrency

Dodd Frank Act Violations

https://en.wikipedia.org/wiki/Dodd%E2%80%93Frank_Wall_Street_Reform_and_Consumer_Pr_otection_Act

Anti-Money Laundering and Bank Secrecy Act Violations

https://en.wikipedia.org/wiki/Money_laundering

Organizations that issue digital tokens are considered to be issuing securities. Organizations that facilitate the sale and resale of digital assets as broker dealers or alternative trading systems are considered to be issuing securities.

Current definition of security per SEC expansive and broad enough to include digital assets but not specifically included.

SEC enforcement actions have argued the digital assets are investment contracts which by definition are securities.

SEC v. J. Howey Co. Investment contract is any transaction or scheme involving an investment of money in a common enterprise with the expectation that profits will be derived from the efforts of the promoter or a third party.

https://en.wikipedia.org/wiki/SEC_v._W._J._Howey_Co.

If digital assets seen as a security, firm selling investments must comply with state and federal securities laws and must be registered with the SEC or exempt from registration.

Firm facilitating the trading of digital assets must register as a broker dealer, an exchange or an Alternative Trading Service.

It is clear from SEC enforcement actions that capital raised in the form of digital currency is not exempt from the registration requirements and is in fact a security.

Peer to Peer lending platforms that use digital assets may be required to register as broker dealers or ATS via the Howey test above if the loans are classified as investment contracts because the level of services rendered by the organization ensure the loans success. In re: matter Prosper Marketplace, Inc. The services provided by Prosper Marketplace made both the borrower and the lender reliant on the Proper’s “platform” to facilitate the lending transaction and the repayment of the loan.

It is currently unclear whether blockchain applications require registration under existing SEC regulation regimes in their own right

FInCen – watching cryptocurrency because of its ability to be used as a vehicle for money laundering.

FinCEN’s stated mission is to safeguard the financial system from illicit use, combat money laundering and promote national security through the collection, analysis, and dissemination of financial intelligence and strategic use of financial authorities.

May have to file an anti-money laundering policy with Fin Cen if viewed as a money transmission service

Bitcoin miners and investors are not money transmitters.

“Money transmission services” means the acceptance of currency, funds, or other value that substitutes for currency from one person and the transmission of currency, funds, or other value that substitutes for currency to another location or person by any means.

In Re Ripple Labs, Inc.

Under Bank Secrecy Act money service businesses have the duty to file SAR’s and can be prosecuted for not doing so.

https://www.fincen.gov/news/news-releases/fincen-fines-ripple-labs-inc-first-civil-enforcement-action-against-virtual

https://www.law.cornell.edu/cfr/text/12/21.11

Commodities Futures Trading Commission (CFTC) – Research…

In re: Coinflip http://www.cftc.gov/PressRoom/PressReleases/pr7231-15

Cryptocurrency properly classified as commodity under the CEA (Commodity and Exchange Act) and thus regulatable by the CFTC

Coinflip violated the CEA by operating a facility for the trading and processing of commodities options without registering with the CFTC as a swap execution facility or as a designated contract market.

Conclusion – Regulators have implemented recordkeeping and know your customer requirements antimony laundering requirements that demonstrate that traditional currencies, securities and systems will apply to cryptocurrencies. Administrator or Exchanger of virtual currency will have register with FinCen’s as a money service business and comply with BSA regulations (Bank Secrecy Act). Must access their risk of being used to facilitate money laundering or financing terrorism and must keep records on both the money transmitter and receiver including each customer’s name and address of any transmitter or receiver of $3,000 or more or any exchange of $1,000 or more.

https://en.wikipedia.org/wiki/Know_your_customer

http://www.finra.org/industry/aml

http://www.dfs.ny.gov/legal/regulations/revised_vc_regulation.pdf

Consumer Fraud Protection Bureau warns the public that virtual currency accounts not insured by the FDC or national credit union so if company fails Fed will no insure the loss

Federal government has preemption over state governments in regulating cryptocurrency as a form of currency under Article 1 sec 8 of the U.S. constitution which states congress has the power to coin money and to regulate the value thereof. U.S. dept of justice has recognized bitcoin as a medium of exchange.

TIGTA Treasury Inspector General for Tax Administration – Virtual currencies popular because viewed as making identity of user of virtual currency anonymous by public – TIGTA analyzed the method used by IRS to deal with revenue generated by the public through crypto. Found no coordination between IRS departments or guidance for conducting investigations or examinations related to crypto… Probably sparked John Doe summons against CoinBase. No actions taken to address comments received on notice 2014-21. Current 1099 reporting does not provide a mechanism for IRS to identify crypto related activity. TIGTA recommendation, come up with a coordinated virtual currency strategy with outcome goals, plan to achieve those goals, and a timeline for implementation. Revise 1099 reporting to indicate crypto related activity. 1099-Mics, 1099-B, 1099-K, W-2 revised so that employers, third party settlement organizations and businesses forced to provide IRS with data necessary to analyze the risk that the public is not reporting crypto currency transactions and to aid the IRS in identifying potentially reportable crypto transitions. The data will be used for the automated underreporting program that is used to generate automatic assessments and to identify audit / criminal investigation targets. Provide the public additional guidance and coordinate with chief counsel’s office and dep of treasury office of tax policy. Original use of bitcoin was in online gaming industry. Bitcoin has 82% of the market for cryptocurrency. Bitcoin as of 4/16 estimated to be worth 6.8 billion. Bitcoin introduced in 2009 by an unidentified programmer named Satoshi Nakamoto. (LB&I) Large Business and International Division of IRS formed Virtual Currencies Issue Team (VCIT) formed to identify international underreporting strategies focusing on crypto to facilitate tax evasion. VCIT includes members from LB&I, Office of Chief Counsel and Criminal Investigations.

Virtual Currencies and the Bank Secrecy Act (BSA).

BSA enacted to help prevent money laundering by creating a number of reporting obligations by banks and Money Service Businesses (MSB). MSB’s include check cashers, issuers and redeemers of traveler’s checks, money orders and money transmitters. MSB’s are subject to BSA reporting requirements including currency transaction reports and Suspicious Activity Reports. Though a delegation of authority from FINCEN, IRS has BSA enforcement responsibilities for financial institutions not regulated by a federal bank agency or another federal agency. MSB are the type of non-bank institution regulated by the IRS as far as the BSA goes. See FINCEN definition of Users, Administrators and Exchangers of virtual currency (above). Failure to comply with BSA subject violator MSB to civil and criminal liability. 31 USC Section 5322

https://www.law.cornell.edu/uscode/text/31/5322
31 U.S. Code § 5322 – Criminal penalties

(a)
A person willfully violating this subchapter or a regulation prescribed or order issued under this subchapter (except section 5315 or 5324 of this title or a regulation prescribed under section 5315 or 5324), or willfully violating a regulation prescribed under section 21 of the Federal Deposit Insurance Act or section 123 of Public Law 91–508, shall be fined not more than $250,000, or imprisoned for not more than five years, or both.

(b)
A person willfully violating this subchapter or a regulation prescribed or order issued under this subchapter (except section 5315 or 5324 of this title or a regulation prescribed under section 5315 or 5324), or willfully violating a regulation prescribed under section 21 of the Federal Deposit Insurance Act or section 123 of Public Law 91–508, while violating another law of the United States or as part of a pattern of any illegal activity involving more than $100,000 in a 12-month period, shall be fined not more than $500,000, imprisoned for not more than 10 years, or both.

(c)
For a violation of section 5318(a)(2) of this title or a regulation prescribed under section 5318(a)(2), a separate violation occurs for each day the violation continues and at each office, branch, or place of business at which a violation occurs or continues.

(d)
A financial institution or agency that violates any provision of subsection (i) or (j) of section 5318, or any special measures imposed under section 5318A, or any regulation prescribed under subsection (i) or (j) of section 5318 or section 5318A, shall be fined in an amount equal to not less than 2 times the amount of the transaction, but not more than $1,000,000.

Operating a MSB without a MSB license or FinCen registration – 18 USC Section 1960
https://www.law.cornell.edu/uscode/text/18/1960

(a)
Whoever knowingly conducts, controls, manages, supervises, directs, or owns all or part of an unlicensed money transmitting business, shall be fined in accordance with this title or imprisoned not more than 5 years, or both.

(b) As used in this section —-
(1)the term “unlicensed money transmitting business” means a money transmitting business which affects interstate or foreign commerce in any manner or degree and —-

(A)
is operated without an appropriate money transmitting license in a State where such operation is punishable as a misdemeanor or a felony under State law, whether or not the defendant knew that the operation was required to be licensed or that the operation was so punishable;

(B)
fails to comply with the money transmitting business registration requirements under section 5330 of title 31, United States Code, or regulations prescribed under such section; or

(C)
otherwise involves the transportation or transmission of funds that are known to the defendant to have been derived from a criminal offense or are intended to be used to promote or support unlawful activity;

(2)
the term “money transmitting” includes transferring funds on behalf of the public by any and all means including but not limited to transfers within this country or to locations abroad by wire, check, draft, facsimile, or courier; and

(3)
the term “State” means any State of the United States, the District of Columbia, the Northern Mariana Islands, and any commonwealth, territory, or possession of the United States.

31 U.S. Code § 5330 – Registration of money transmitting businesses

(a)REGISTRATION WITH SECRETARY OF THE TREASURY REQUIRED.—-
(1)IN GENERAL.—Any person who owns or controls a money transmitting business shall register the business (whether or not the business is licensed as a money transmitting business in any State) with the Secretary of the Treasury not later than the end of the 180- day period beginning on the later of—-

(A)
the date of enactment of the Money Laundering Suppression Act of 1994; or

(B)
the date on which the business is established.

(2)FORM AND MANNER OF REGISTRATION.—-
Subject to the requirements of subsection (b), the Secretary of the Treasury shall prescribe, by regulation, the form and manner for registering a money transmitting business pursuant to paragraph (1).

(3)BUSINESSES REMAIN SUBJECT TO STATE LAW.—-
This section shall not be construed as superseding any requirement of State law relating to money transmitting businesses operating in such State.

(4)FALSE AND INCOMPLETE INFORMATION.—-
The filing of false or materially incomplete information in connection with the registration of a money transmitting business shall be considered as a failure to comply with the requirements of this subchapter.

(b)CONTENTS OF REGISTRATION.—-The registration of a money transmitting business under subsection (a) shall include the following information:

(1)
The name and location of the business.

(2) The name and address of each person who—-

(A)
owns or controls the business;

(B)
is a director or officer of the business; or

(C)
otherwise participates in the conduct of the affairs of the business.

(3)
The name and address of any depository institution at which the business maintains a transaction account (as defined in section 19(b)(1)(C) of the Federal Reserve Act).

(4)
An estimate of the volume of business in the coming year (which shall be reported annually to the Secretary).

(5)
Such other information as the Secretary of the Treasury may require.

(c)AGENTS OF MONEY TRANSMITTING BUSINESSES.—-

(1)MAINTENANCE OF LISTS OF AGENTS OF MONEY TRANSMITTING BUSINESSES. —-Pursuant to regulations which the Secretary of the Treasury shall prescribe, each money transmitting business shall—-

(A)
maintain a list containing the names and addresses of all persons authorized to act as an agent for such business in connection with activities described in subsection (d)(1)(A) and such other information about such agents as the Secretary may require; and

(B)
make the list and other information available on request to any appropriate law enforcement agency.

(2)TREATMENT OF AGENT AS MONEY TRANSMITTING BUSINESS.—-
The Secretary of the Treasury shall prescribe regulations establishing, on the basis of such criteria as the Secretary determines to be appropriate, a threshold point for treating an agent of a money transmitting business as a money transmitting business for purposes of this section.
DANGER!!!

(d)DEFINITIONS.—-For purposes of this section, the following definitions shall apply:

(1)MONEY TRANSMITTING BUSINESS.—-The term “money transmitting business” means any business other than the United States Postal Service which—-

(A)
provides check cashing, currency exchange, or money transmitting or remittance services, or issues or redeems money orders, travelers’ checks, and other similar instruments or any other person who engages as a business in the transmission of funds, including any person who engages as a business in an informal money transfer system or any network of people who engage as a business in facilitating the transfer of money domestically or internationally outside of the conventional
financial institutions system;; [1]

(B)
is required to file reports under section 5313; and

(C)
is not a depository institution (as defined in section 5313(g)).

(2)MONEY TRANSMITTING SERVICE.—-
The term “money transmitting service” includes accepting currency or funds denominated in the currency of any country and transmitting the currency or funds, or the value of the currency or funds, by any means through a financial agency or institution, a Federal reserve bank or other facility of the Board of Governors of the Federal Reserve System, or an electronic funds transfer network.

(e)CIVIL PENALTY FOR FAILURE TO COMPLY WITH REGISTRATION REQUIREMENTS.— (1)IN GENERAL.—-
Any person who fails to comply with any requirement of this section or any regulation prescribed under this section shall be liable to the United States for a civil penalty of $5,000 for each such
violation.

(2)CONTINUING VIOLATION.—-
Each day a violation described in paragraph (1) continues shall constitute a separate violation for
purposes of such paragraph.

(3)ASSESSMENTS.—-
Any penalty imposed under this subsection shall be assessed and collected by the Secretary of the Treasury in the manner provided in section 5321 and any such assessment shall be subject to the provisions of such section.

Examples of Cryptocurrency Enforcement Action to Date:

Silk Road” Take Down and 3 Arrests: A Tale of Woe.
The federal government fears that organized crime is using e commerce, and virtual currency such as BitCoin, as a means for money laundering and income tax evasion. The following story about a website called “Silk Road” is a great example of how this fear came into being. Silk Road was created by a man from SanFrancisco named Ross Ulbricht. Mr.Ulbricht also went by the name “Dread Pirate Roberts.” Silk Road was an underground website created to sell a variety of illegal drugs along with other unlawful goods and services. The site was a fairly sophisticated criminal marketplace designed to keep all transactions anonymous. Thousands of drug dealers used the site to distribute hundreds of kilos of illegal drugs, goods, and services to more than 100,000 buyers. Silk Road was also used launder hundreds of millions of dollars that were received from buyers.

Site creators attempted to keep everything anonymous by creating a network of computers located around the world that concealed the IP addresses of the computers that used the network. This concealed the identities of the networks users.

The site was also designed to take only Bitcoin as payment, further concealing the identities and locations of the customers who were making the payments through the site.

Authorities took down Silk Road in October of 2013 after it had been in operation for a little over 2 years. On May 15, 2015 Ulbricht was forced to forfeit $183,961,921 and was also sentenced to life in prison.

Prosecution of Robert M. Faiella:

Faiella was an underground Bitcoin exchanger who was operating an unlicensed fund transmitting business. His underground exchange was run on Silk Road. Since Bitcoin was the only way to pay on Silk Road the users needed to get Bitcoin from somewhere, and Faiella was happy to help. Faiella would get orders for Bitcoin from Silk Road users that he filled through another site called BitInstant. BitInstant is a site that enabled customers to buy Bitcoin with cash anonymously. Customers of BitInstant didn’t need to supply any personal identifying information and the sit charged a fee for their services.

Faiella would get the Bitcoins from BitInstant then sell them to Silk Road users at a markup. The CEO of BitInstant had knowledge of Faiella’s actions and even actively assisted him. Together they exchanged around $1 million in cash in exchange for Bitcoin to give to the Silk Road users.

Robert Faiella was sentenced to forfeit $950,000 and serve 48 months in prison with 3 years of supervised release.

Prosecution of Charlie Shrem:

The CEO of BitInstant, Charlie Shrem, was sentenced to forfeit $950,000 along with 2 years in prison and 3 years of supervised release. Shrem was also the compliance officer for BitInstant, in charge of complying with all anti-money laundering laws.
Shrem knew that the Silk Road site was used in illegal drug trafficking and that Faiella was using the Bitcoin exchanged to give to customers of that site. Shrem even personally processed those orders and gave a discount to Faiella on high volume transactions. Along with all of that, Shrem never filed a suspicious activity report, further helping Faiella to avoid the governments anti money laundering restrictions.

Wallingford Man Charged with Stealing Bitcoins in Dark Web Phishing Scheme

MICHAEL RICHO, 34, of Wallingford, was arrested for access device fraud, computer fraud, wire fraud, identity theft and money laundering where he was stealing bitcoins via an online phishing scheme on the dark web.

He posted fake links in online marketplaces that directed his victims to a fake login page that was virtually identical to various actual online marketplaces. When they attempted to login he stole their username and password. When his victims deposited bitcoins with the marketplace, RICHO withdrew the bitcoins before the individual could spend them and deposited the stolen BitCoin into his own bitcoin wallet. He subsequently sold the stolen bitcoins to third parties in exchange for U.S. currency. It was alleged that RICHO had over 10,000 stolen usernames and passwords
stored on his computer.

RICHO faces Money laundering and Wire Fraud charges that each carry a potential 20-year imprisonment term, Access Device Fraud that carries a 10-year term, Computer Fraud punishable by a maximum five years’ impingement term, and Aggravated Identity Theft with a mandatory imprisonment term of two years.

Avalanche Network Dismantled in International Cyber Operation
A Multinational sting was conducted involving searches and arrests in four countries with the aim of dismantling a sophisticated and complex network of servers collectively known as “Avalanche.” The network was alleged to host greater than two dozen of the world’s most troublesome and malicious software along with several money laundering campaigns.

The Cyber Criminals that ran the network relied on an international infrastructure dedicated to facilitating privacy invasions and financial crimes. A multinational law enforcement coalition targeted the individual bad actors, and the network’s infrastructure to disrupt the criminal
ecosystem in one major strike.

The sting was unprecedented in its scope, scale, reach and where 40 countries cooperated in taking down the Network and destroying the cyber infrastructure and disrupting all the malware systems that relied upon it to do harm.

Authorities stated that the only way to effectively combat international cybercrime is with a coordinated international law enforcement approach. The FBI stated it is as comfortable chasing international criminals in cyberspace with the help of their international partners as they are here at home.

Avalanche offered cyber criminals a secure infrastructure that was designed to avoid detection by international law enforcement and cyber security experts, that enabled criminals to conduct malware campaigns and money laundering schemes nicknamed “money mule” schemes. Malware was used to steal the online banking passwords and related sensitive information from victims. Once the victim’s computers we infected with Malware their computers were redirected through the Avalanche network of servers and ultimately rerouted to servers controlled by the end- user cybercriminals. Access to the Avalanche network was marketed to cybercriminals via postings on underground online criminal forums.

The sting operation seized, blocked and sinkholed / redirected traffic from the infected victim’s computers to servers controlled by law enforcement. Over 800,000 malicious domains associated with the Avalanche network were identified in this manner. The Malicious domains funneled information from the victims’ infected computers via the Avalanche servers back to the end user cybercriminals.

The criminal network launched ransomware attacks that encrypted victims’ computer files until they paid a ransom via electronic currency to the end-user cybercriminals. Other types of malware initiated fraudulent wire transfers or utilized “mules” who purchased goods with stolen funds, which enabled the cybercriminals to launder the stolen money they acquired via malware attacks or other criminal means.

The Avalanche network was known to be in existence from at least 2010 and was estimated to involved as many as 500,000 malware infected computers on a worldwide daily basis. The financial losses victims suffered via malware attacks are estimated to be in the hundreds of millions of dollars spread the worldwide.

The sting involved the U.S. Attorney’s Office, the FBI, Department of Homeland Security’s U.S.- Computer Emergency Readiness Team (US-CERT), the Shadowserver Foundation, Fraunhofer Institute for Communication, Registry of Last Resort, ICANN and domain registries from around the world. The Criminal Division’s Office of International Affairs, the Public Prosecutor’s Office Verden; the Luneburg Police of Germany; Europol; and Eurojust, located in The Hague, Netherlands; and investigators and prosecutors from more than 40 jurisdictions, including India, Singapore, Taiwan and Ukraine.

Texas Man Sentenced for Operating Bitcoin Ponzi Scheme in the First Federal Securities Fraud Case Involving Bitcoin.

TRENDON T. SHAVERS, a/k/a “pirateat40,” was sentenced to 18 months in prison for securities fraud involving a Bitcoin-related Ponzi scheme. SHAVERS founded and operated a Bitcoin Savings and Trust that sold Bitcoin-based investments via the Internet. SHAVERS fraudulently obtained around 146,000 Bitcoin which was valued at $807,380 based on the average Bitcoin FMV over the entire duration of the fraudulent scheme.

He ran a classic Ponzi scheme by raising Bitcoins while promising spectacular returns and offering personal guarantees, while merely paying back older investors with newer investors’ Bitcoins.

He utilized an internet based public “Bitcoin Forum” to attract victims who lent Bitcoin in exchange for being paid up to seven percent interest weekly which amounts to an annualized interest rate of 3,641% per year while being promised the ability to withdraw their investments at any time. SHAVERS claimed the borrowed Bitcoin was being used to fund a market-arbitrage strategy which included lending Bitcoin to others for a fixed period; trading Bitcoin via online exchanges; and selling Bitcoin locally via private, off-market transactions. He personally guaranteed each victim to cover any losses in the event of a market change. He eventually failed to honor his investors’ redemption requests and his personal guarantee, and reneged on paying the agreed-upon rates of interest.

SHAVERS ultimately diverted investors’ Bitcoin to day trade on his own account via a Bitcoin currency exchange, and to pay his personal expenses. At the peak of the Ponzi Scheme, SHAVERS had in his possession, roughly seven percent of the Bitcoin in public circulation at that time. Ultimately 48 of the approximately 100 investors lost all or part of their investment.

SHAVERS was ordered to pay $1,228,660.93 in forfeiture, and $1,228,660.93 in restitution and to pay more than $40 million in disgorgement and prejudgment interest, and a civil penalty of $150,000.

More than 20 federal agencies, 94 U.S. attorneys, state and local partners, were assembled in what amounts to the broadest coalition of law enforcement, investigatory and regulatory agencies ever assembled to combat fraud at that time.

Dozens of Online “Dark Markets” Seized Pursuant to Forfeiture Complaint Filed in Manhattan Federal Court in Conjunction with The Arrest of The Operator of Silk Road 2.0

Websites Seized in The Operation Include Underground Markets Trafficking in Illegal Drugs, Firearms, Stolen Credit Cards, Fake Passports and IDs, Computer-Hacking Services, And Counterfeit Currency

The United States Attorney’s office, Justice Department’s Criminal Division, Federal Bureau of Investigation and Homeland Security Investigations seized the Silk Road 2.0 website and dozens of additional “dark market” websites offering illegal goods and services on a network of computers on the Internet designed to conceal the true IP addresses of the computers logged on the network. The IP addresses and servers hosting these websites were seized yesterday as part of a coordinated international law enforcement action and the law enforcement agencies of approximately 16 foreign nations working under the umbrella of Europol’s European Cybercrime Centre (EC3) and Eurojust.

“Underground websites such as Silk Road and Silk Road 2 are like the Wild West of the Internet, where criminals can anonymously buy and sell all things illegal.

The advertised goods and services included, among other things: illegal narcotics; firearms; stolen credit card data and personal identification information; counterfeit currency; fake passports and other identification documents; and computer-hacking tools and services.

The operation against the Dark Market Sites involved the seizure of over 400 Tor website addresses – known as “.onion” addresses – as well as the servers hosting them. Examples of some of the sites seized in the operation include:

  • “Pandora” “Blue Sky” “Hydra” and “Cloud Nine” offering an extensive range of illegal goods and services for sale, including drugs, stolen credit card data, counterfeit currency, and fake identity documents.
  • “Executive Outcomes” offerings included assault rifles, automatic weapons, and sound suppressors. The site boasted that it used “secure drop ship locations” so that “anonymity was ensured” and all serial numbers from the weapons it sold were “removed . . . and refilled with metal.
  • “Fake Real Plastic” which sold counterfeit credit cards, encoded with “stolen credit card data” and “printed to look just like real VISA and Mastercards.” The cards were “guaranteed to have at least $2500 left on the credit card limit” and could be embossed with “any name the buyer wanted on the card.”
  • “Fake ID” sold fake passports from several countries, advertised as “high quality” and having “all security features” of genuine documents.

Prosecution of “Fast Cash!” and “Super Notes Counter” which offered to sell counterfeit Euros and U.S. dollars cryptocurrency.

The law enforcement authorities of Bulgaria, the Czech Republic, Finland, France, Germany, Hungary, Ireland, Latvia, Lithuania, Luxembourg, the Netherlands, Romania, Spain, Sweden, Switzerland, and the United Kingdom participated in the sting.

Manhattan U.S. Attorney Announces Charges Against Bitcoin Exchangers, Including CEO Of Bitcoin Exchange Company, For Scheme to Sell and Launder Over $1 Million In Bitcoins Related to Silk Road Drug Trafficking

Bitcoins were Used to Buy and Sell Illegal Drugs Anonymously on The Silk Road Drug Trafficking Website

Criminal charges were brought against ROBERT M. FAIELLA and CHARLIE SHREM, the Chief Executive Officer and Compliance Officer of a Bitcoin exchange company, whom engaged in a scheme to sell over $1 million in Bitcoins to users of “Silk Road,” to enable them to buy and sell illegal drugs anonymously and attempt to place the users beyond the reach of law enforcement.

SHREM was also charged with willfully failing to file any suspicious activity report regarding FAIELLA’s illegal transactions through the Company, in violation of the Bank Secrecy Act.

The prosecutors stated that law enforcement will aggressively pursue those who would coopt new forms of currency for illicit purposes.” Both defendants were charged with knowingly contributing to and facilitating anonymous drug sales and earning substantial profits along the way by enabling ‘Silk Road’ customers to conduct their illegal transactions by facilitating the conversion of their dollars into Bitcoins.

FAIELLA sold Bitcoins, which were the only form of payment accepted on Silk Road to users seeking to buy illegal drugs on the site. Upon receiving orders for Bitcoins from Silk Road users, he filled the orders through a company based in New York, New York (the “Company”). The Company was designed to enable customers to exchange cash for Bitcoins anonymously, that is, without providing any personal identifying information, and it charged a fee for its service. FAIELLA obtained Bitcoins with the Company’s assistance, and then sold the Bitcoins to Silk Road users at a markup.

SHREM is the Chief Executive Officer of the Company that oversaw ensuring the Company’s compliance with federal and other anti-money laundering (“AML”) laws. Coincidentially, SHREM was also the Vice Chairman of a foundation dedicated to promoting the Bitcoin virtual currency system. SHREM, also personally bought drugs on Silk Road, and was fully aware that Silk Road was a drug-trafficking website and knew that FAIELLA was operating a Bitcoin exchange service for Silk Road users. Working together, SHREM and FAIELLA exchanged over $1 million in cash for Bitcoins for the benefit of Silk Road users, so that the users could, in turn, make illegal purchases on Silk Road.

They each were charged with one count of conspiracy to commit money laundering, which carries a maximum sentence of 20 years in prison, and one count of operating an unlicensed money transmitting business, which carries a maximum sentence of five years in prison. SHREM is also charged with one count of willful failure to file a suspicious activity report, which carries a maximum sentence of five years in prison.

The DEA’s New York Organized Crime Drug Enforcement Strike Force, the New York City
Police Department, Immigration and Customs Enforcement – Homeland Security Investigations, the New York State Police, the U. S. Internal Revenue Service Criminal Investigation Division, the Federal Bureau of Investigation, the Bureau of Alcohol, Tobacco, Firearms and Explosives, U.S. Secret Service, the U.S. Marshal Service, New York National Guard, Office of Foreign Assets Control and the New York Department of Taxation and Finance participated in the investigation and prosecution.

Operator of Unlawful Bitcoin Exchange Pleads Guilty In Multimillion-Dollar Money Laundering And Fraud Scheme

Murgio used Coin.mx, an internet-based Bitcoin exchange, to process over $10 million in Bitcoin transactions in violation of federal anti-money laundering laws, and then obstructed a regulatory examination to hide his scheme.”

The Bitcoin exchange was illegally operated in violation of federal anti-money laundering laws and regulations, including those requiring money services businesses like Coin.mx to meet state licensing and federal registration requirements set forth by the United States Treasury Department. Substantial efforts were made to evade detection of their unlawful Bitcoin exchange via operating through a phony front company called “Collectables Club.” to open bank accounts, and too fool financial institutions into believing the unlawful Bitcoin exchange was simply a members-only association of individuals who discussed, bought, and sold collectible items and memorabilia.

Financial institutions were deceived where the exchange deliberately misidentified and miscoded Coin.mx customers’ credit and debit card transactions, in violation of bank and credit card company rules and regulations. Coin.mx customers were additionally instructed on how to mislead banks about the nature of the credit and debit card transactions the customers executed through Coin.mx by falsely telling banks that they were purchasing collectibles through Coin.mx, when Bitcoins were being traded. In all, more than $10 million of Bitcoin-related transactions were processed illegally through multiple financial institutions.

To future cloak the illegal bitcoin trading, Coin.mx gained control of HOPE FCU, a federal credit union in New Jersey with primarily low-income members via in excess of $150,000 in illegal bribes. After installing various co-conspirators on HOPE FCU’s Board of Directors, Coin.mx’s banking operations were transferred over to HOPE FCU.

MURGIO, 33, Pled guilty to one count of conspiracy to operate an unlicensed money transmitting business, which carries a maximum sentence of five years in prison; one count of conspiracy to commit bank fraud, which carries a maximum sentence of 30 years in prison; and one count of conspiracy to obstruct an examination of a financial institution, which carries a maximum sentence of five years in prison.

The FBI and the Secret Service and the NCUA assisted with the investigation and prosecution which was overseen by the Office’s Complex Frauds and Cybercrime Unit.

Three Men Indicted on District’s First Bitcoin-Related Case

Bitcoin was utilized to enable a conspiracy to distribute controlled substances, money laundering and to facilitate transaction in criminally derived property. Authorities states the case demonstrated the ever-growing ways in which the virtual world is intersecting with, and being exploited by crime and criminals. Homeland security stated part of its mission was to dismantle the fraudulent financial operations of transnational criminal organizations by attacking the mechanisms where they can funnel their illicit proceeds freely and without detection,” They were targeting all illegally functioning new alternatives to traditional financial institutions that deliberately enable businesses and individuals to further their criminal schemes.”

The defendants in this case conspired to purchase $74,000 in bitcoins via proceeds traceable to drug sales and then used the bitcoins to buy bulk quantities of Alprazolam, Xanan and Mollies off the dark web from a dealer in Canada for further distribution.

Investigators described Bitcoin as a convertible “virtual” currency with an equivalent value in U.S. dollars (or any foreign domination for that matter), that functions as a medium of exchange like a currency in Internet-based environments, but does not have legal tender status. The equivalent value floats on the open market, with its price varying based on global supply and demand.

When acquired, Bitcoins must be sent to the user’s Bitcoin address. The address is an alphanumeric string analogous to a bank account number. Little to no personally identifiable information about the payer or payee is transmitted in a Bitcoin transaction. Only the Bitcoin addresses of the parties are needed for the transaction, which by themselves do not reveal any identifying information.

Bitcoin is not inherently illegal. However, its anonymity has made it the medium of exchange of choice for the black markets suppliers of illegal goods and services. Bitcoin has created a shadow banking system for criminals who use Internet-based black markets. Illegal drugs can now be obtained with a click of a button, rather than having to locate a drug dealer on the streets.

Largest Ever Forfeiture Of Bitcoins; ($28 Million worth) Court Also Orders Forfeiture Of The Silk Road Hidden Website

The Bitcoin were seized from the Silk Road server, acquired with the forfeiture of the Silk Road hidden website. Bitcoins were used to facilitate money laundering and thus constitute property involved in money laundering. Investigators stated that Silk road was a global cyber business designed to broker criminal transactions, and the forfeiture was designed to take the profit out of crime and signal to those who would turn to the dark web for illicit activity that they have chosen the wrong path. These Bitcoins were forfeited not because they are Bitcoins, but because they were, as the court found, the proceeds of crimes.”

$110,000,000 Civil Penalty Levied Against Russian Cryptocurrency Exchanger

In September of 2017, the Treasury Department’s Financial Crimes Enforcement Network (FinCEN) announced that they had assessed a civil penalty of over $110m against the Russian virtual currency exchanger, BTC-e. Additionally, FinCEN assessed a $12m civil penalty against BTC’e’s founder Alexander Vinnick. Vinnick was also charged with 21 federal counts, including money laundering and running an unlicensed money services business.

Under the Bank Secrecy Act, FinCEN has the authority to oversee money services businesses and although the operation of an enterprise dealing exclusively with virtual currency does not fall under the purview of FinCEN, operating a business that converts virtual currency into legal tender (a “transmitter”) is. The civil penalty assessments against BTC-e are a result of BTC-e’s alleged failure to implement anti-money laundering measures as well as its failure to register as a money services business.

Although FinCEN is not particularly out to find taxpayers who are dealing in cryptocurrencies or virtual currencies, they are targeting businesses that service transactions involving them. When criminal investigations are being conducted against companies like BTC-e, large amounts of information that can be used to identify non-compliant U.S. taxpayers with investment in cryptocurrency that have gone un-reported for tax purposes are at the government’s fingertips.