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How Does the IRS Track Bitcoin and Other Cryptocurrencies?

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How Does the IRS Track Bitcoin and Other Cryptocurrencies?

How Does the IRS Track Bitcoin and Other Cryptocurrencies?

Can the IRS Track Bitcoin and Other Cryptocurrencies?

A new proposal from the Financial Crimes Enforcement Network (FinCEN) on December 18th, 2020, would make it much easier for the government to track cryptocurrency. This change would affect cryptocurrencies held in private wallets and those that are held on trading platforms such as Coinbase. For example, sending a large sum of cryptocurrency to your private wallet would require a person to inform the government that they are the owner of the wallet. Additionally, under the new regulation, cryptocurrency platforms must also make certain disclosures to the government depending on the transactions performed by users. For example, a platform that allows crypto transactions would have to report users that engage in trading of $10,000 of cryptos in one day. While one of the main reasons for using cryptocurrencies like Bitcoin is anonymity, the U.S. is concerned about the financial crimes and other heinous activities that could be committed using virtual currencies. By collecting the identities of those that engage in the sale or exchange of cryptocurrency, the government hopes to curb crimes like money laundering and human trafficking. However, these increased regulations mean a lot more paperwork for taxpayers and companies that facilitate the buying and selling of virtual currencies. Additionally, when a person or entity does not comply with the new reporting requirements, they could face severe penalties from the Treasury Department. For example, financial institutions could be issued daily penalties, and individual taxpayers may incur fines and be subject to criminal prosecution. While every exchange of cryptocurrency is not currently tracked, it is a matter of time before more regulations impact the anonymity of crypto trading. Ensure that you are compliant with these new changes by working with our dual licensed California Tax Attorneys and CPAs.


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What to do If I have multiple years of unreported cryptocurrency?

If you have multiple years of unreported cryptocurrency that in total would create a situation where $30,000 or more of federal taxes went unreported you should consider making a voluntary disclosure as $30,000 of tax loss under the federal sentencing guidelines is equivalent to one year in jail. Note:  As long as a taxpayer that has willfully committed tax crimes (potentially including multiple years of unreported cryptocurrency income coupled with affirmative evasion of U.S. income tax on domestic or offshore crypto income) self-reports the tax fraud (including a pattern of non-filed returns) through a domestic or offshore voluntary disclosure before the IRS has started an audit or criminal tax investigation / prosecution, the taxpayer can ordinarily be successfully brought back into tax compliance and receive a nearly guaranteed pass on criminal tax prosecution and simultaneously often receive a break on the civil penalties that would otherwise apply. It is imperative that you hire an experienced and reputable criminal tax defense attorney to take you through the voluntary disclosure process.  Only an Attorney has the Attorney Client Privilege and Work Product Privileges that will prevent the very professional that you hire from being potentially being forced to become a witness against you, especially where they prepared the returns that need to be amended, in a subsequent criminal tax audit, investigation or prosecution. Moreover, only an Attorney can enter you into a voluntary disclosure without engaging in the unauthorized practice of law (a crime in itself). Only an Attorney trained in Criminal Tax Defense fully understands the risks and rewards involved in voluntary disclosures and how to protect you if you do not qualify for a voluntary disclosure. As uniquely qualified and extensively experienced Criminal Tax Defense Tax Attorneys, Kovel CPAs and EAs, our firm provides a one stop shop to efficiently achieve the optimal and predictable results that simultaneously protect your liberty and your net worth.   See our Testimonials to see what our clients have to say about us! If you have failed to file a tax return for one or more years or have taken a position on a tax return that could not be supported upon an IRS or state tax authority audit, eggshell audit, reverse eggshell audit, or criminal tax investigation, it is in your best interest to contact an experienced tax defense attorney to determine your best route back into federal or state tax compliance without facing criminal prosecution.

How Do I Report Cryptocurrency on Taxes?

Cryptocurrencies, also referred to by the IRS as virtual currencies, are swiftly becoming popular among taxpayers across all income tax brackets. However, regulations surrounding cryptocurrencies are steadily changing as new types arise, and many businesses begin to accept payment from these currencies. To prevent the possibility of facing civil and criminal penalties for the incorrect tax reporting of cryptocurrency, you should learn how the IRS treats these currencies for tax purposes.

Rules for Cryptocurrency Taxation

The IRS taxes cryptocurrencies as property, often in similar ways as to the tax treatment of stocks. As a result, the exchange, sale, or purchase of goods or services using cryptocurrency will generally be recognized as a capital gain or loss. Additionally, accepting cryptocurrency as a form of payment in your business will trigger ordinary (rather than capital gain) income tax liability. Mining cryptos using computer software is also a taxable event that is subject to ordinary income tax and self-employment taxes. To calculate your taxes for crypto transactions, you need to take your cost basis and subtract it from your proceeds in order to get your capital gain or loss. The cost basis of your cryptocurrency is the value of the virtual currency when it is acquired. The proceeds are calculated by looking at the amount of money earned from the sale of crypto or fair market value of the coins or property received for it in an exchange. For example, a taxpayer would need to report capital gains of $2,000 if they purchased Bitcoin for $40,000 and sold it at $42,000. If they held the coins for less than a year the gain would be short term.  If held for longer than a year the gain would be long term. It is also important to note that cryptocurrency that is received for services rendered or where a product is sold will be treated differently than where a taxpayer is engaged in purely investing activity. When you accept crypto for services or product sold, you record it as ordinary income that will be taxed at your graduated income tax rate and will be subject to self-employment tax. Any eventual exchange or disposal of that cryptocurrency so acquired will then be reported as capital gains and losses.

Form 8949

To report cryptocurrency on your tax return, you will need to use Form 8949 for capital gain and losses. Every sale of cryptocurrency generating capital gains and losses should be reported using this form. Make sure that you have details of your cryptocurrency transactions ready, as Form 8949 will require you to answer the following questions:
  • Details of short-term and other crypto transactions
  • Dates when you acquired cryptocurrency and its value at that time
  • Dates when you sold or traded crypto assets
  • The proceeds or gross USD profit from the sale or use of cryptos
  • The total value of cryptocurrency transactions
  • The capital gains or losses when trading crypto
Engaging in the regular trading of cryptocurrency and reporting this trading could yield some confusing results. For example, you may exchange $40,000 worth of cryptocurrencies in a tax year but only gain a few hundred dollars from those trades. Remember to submit your Form 8949 with a Form 1040 Schedule D. Our dual licensed California Tax Attorneys and CPAs could help you navigate complex cryptocurrency tax reporting.