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Bitcoin and other forms of virtual currency have become part of the mainstream discussion on transactional and investment opportunities. For those deciding whether or not to transact in virtual currency, one of the most common questions is what the tax consequences of such a decision might be.
At the Tax Law Offices of David W. Klasing, our Santa Barbara Bitcoin and virtual currency tax attorneys and CPAs have years of experience working in the new frontier of virtual currency tax law. We understand the way these types of holdings are required to be reported to the IRS and the extensive record keeping that is required to keep up with this. We have also successfully fought for our clients who have been assessed penalties by the IRS for past failure to pay taxes on virtual currency. To schedule a confidential consultation, call us today at (800) 681-1295.
What if I Received a Letter from the IRS About My Unreported Cryptocurrency Transactions?
This can very easily result in an eggshell audit or criminal tax investigation if not handled property. Many cryptocurrency traders are shocked to learn that their exchanges of one type of crypto for another were taxable in the year of the exchange. With the huge rise in the market in 2017 followed by the collapse of the market in 2018 and beyond many investors are finding themselves with huge tax liabilities without the value in their remaining portfolio to cover the taxes owed. Many trades are shocked to learn that the IRS may have obtained their information from a John Doe summons of Coinbase or another cryptocurrency brokerage. We have extensive experience in dealing with all facets of crypto including air drops. Keeping your cryptocurrency offshore creates tremendously more exposure. Lastly, we are very accustomed to investors that had crypto with a brokerage that folded or was shut down and the complications that causes.
Note: As long as a taxpayer that has willfully committed tax crimes (potentially including non-reported cryptocurrency transactions) 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.
A letter from the IRS regarding unreported cryptocurrency does not automatically make a voluntary disclosure unavailable.
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!See our Non-Filer Q and A Library See our FBAR Compliance and Disclosure Q and A Library See our Foreign Audit Q and A LibrarySee our 2011 OVDI Q and A Library
Basic Explanation of Bitcoin and Virtual Currencies
Invented in 2009, Bitcoin is a decentralized form of virtual currency. Unlike traditional currency, sales and transfers of Bitcoin happen between two people directly, rather than through a bank or other centralized institution. This allows for more private transactions, and it also allows those involved to avoid having to pay transfer and banking fees associated with traditional institutions.
An actual bitcoin is a code in the form of a computer file that you store in a virtual wallet on your phone or computer. Transactions involving bitcoins are powered by an open-source code known as a blockchain. Each transaction involving an individual bitcoin is a “block” which is then “chained” to a code. After a transaction is completed, high-powered computers are used to confirm its validity. The blockchain thus functions as a type of a permanent, public ledger that helps prevent fraud.
Bitcoin has an artificial scarcity designed into its model. There are only 21 million bitcoins in existence. Bitcoins can be obtained by a complex computer-based process known as mining. Most of the 21 million have yet to be mined, but when all 21 million have been, no more will be created. As such, the value of an individual bitcoin goes up and down depending on current supply and demand, much like with a stock.
The success of Bitcoin has inspired a generation of similar cryptocurrencies that use blockchain technology. These types of virtual currency can be traded in online exchanges like stocks, but they can also be used to pay people for goods or services. Increasingly, many companies, including Microsoft and AT&T, are accepting Bitcoin as a form of payment. Some employers are even using Bitcoin for payroll or bonuses.
The Tax Consequences of Buying and Selling Bitcoin in Santa Barbara
People can save a great deal of money in bank fees and other costs by using Bitcoin or other virtual currencies, but it will not get them out of paying income taxes on their earnings or sales taxes on things personal property they sell. In the past few years, the IRS has begun to pay keen attention to those who try to avoid paying income taxes on cryptocurrency, and violators have been penalized. The IRS classifies virtual currency as “a digital representation of value that functions as a medium of exchange, a unit of account, and/or a store of value,” but that is not recognized as a form of legal tender in any nation of the world. As such, for tax purposes, it is classified as property rather than currency.
This means that property tax principles are used to determine how to report virtual currency on your returns and what taxes you are assessed. Specifically, virtual currencies are subject to the capital gains tax. This means that, while the purchase of Bitcoin is not a taxable event, selling it or using it to buy something else is. The taxable amount will be the amount for which it is sold minus the fair market value of a bitcoin on the day you purchased it.
As such, extensive records must be kept regarding the fair market trading value of each bitcoin you acquire on the day you acquire it so that you properly and completely fill out Schedule D on your tax return. You will also need to pay attention to the amount of time you have held the bitcoin before selling it. If you only had it for less than a year before selling it, you will be assessed a short-term tax on your capital gains equal in rate to your graduated ordinary income tax rate. If you hold it for a year or more, however, you will subject to a long-term capital gains tax at a rate up to 20 percent + 3.8% net investment income tax depending on your income bracket. California does not have a preferential capital gains rate and taxes at roughly 13%.
Capital losses must also be reported if you lose money in buying and selling bitcoins. You can write off capital losses to offset the tax on capital gains within the same tax year but cannot offset ordinary income by greater than $3,000 from capital losses in (or carried over into) any given tax year. An experienced Los Angeles Bitcoin and virtual currency tax attorney and CPA like those at the Tax Law Offices of David W. Klasing can help you make proper reports and avoid facing potential criminal and civil penalties.
Note that if you are paid for your services in bitcoin like if your employer pays you a Bitcoin salary, this is initially reported as ordinary income subject to self-employment tax rather than capital gains on property. You must keep track of the value of Bitcoin to US dollars conversion rate on the date of each payment. Your employer will also likely be required to withhold employment taxes calculated at the same rate.
If You Have Tax Questions About Virtual Currency, Call Our Santa Barbara Lawyers Today
Because Bitcoin and other virtual currencies are typically treated as property rather than currency by the IRS, there are unique tax-related issues surrounding transactions that involve them. At the Tax Law Offices of David W. Klasing, our experienced Santa Barbara Bitcoin and virtual currency attorneys and CPAs can advise you on how to properly file tax returns and pay taxes related to virtual currency. If you fail to pay the required taxes and are pursued by the IRS, we can work to bring your case to a positive resolution. Call us today at (800) 681-1295 to schedule a consultation.See our Bitcoin and Cryptocurrency Q and A Library
More Questions and Answers About Bitcoin
- What to Do When IRS Wants My Bitcoin Trade History
- Bitcoin Tax Record Keeping
- Can I Appeal a Bitcoin Tax Determination by the IRS?
- Why does BitCoin and other types of Virtual Currency draw so much attention from the Taxing Authorities and the Federal Government?
- Where is the most current IRS guidance on Virtual Currency found?
- Should You Report Bitcoin on Your Taxes?
- What Is Bitcoin?
- How does the IRS treat Bitcoin?
- Can I Face Tax Penalties for Mistakes Made with Bitcoin?
- How Does a Business Determine Its Taxes When Paid in Bitcoin?
- Who Pays the Taxes in a Bitcoin “Mining Pool?”
- Are Bitcoin Miners Required to Pay Self-Employment Tax?
- Can Bitcoin Trading Create an Obligation to Pay Capital Gains Taxes?
- What Is Bitcoin Digital Currency and Why Does it Matter for Tax Purposes?
- What Happens if the IRS Thinks I’m Using Bitcoin to Commit Tax Evasion?
Regardless of your business needs, the professionals at the Tax Law Offices of David W. Klasing are here for you. We are open for business and our team will help ensure that your business is too. Contact the Law Offices of David W. Klasing today to discuss your business with one of our professionals.
In addition to our main office in Irvine, the Tax Law Offices of David W. Klasing has unstaffed (conference room only) satellite offices in Los Angeles, San Bernardino, Santa Barbara, Panorama City, Oxnard, San Diego, Bakersfield, San Jose, San Francisco, Oakland, Carlsbad and Sacramento. During the COVID-19 pandemic, our staff are working from home, but have full virtual meeting capability.
Our office technology allows clients to meet virtually via GoToMeeting. With end-to-end encryption, strong passwords, and top-rated reliability, no one is messing with your meeting. To schedule a reduced-rate initial consultation via GoToMeeting follow this link. Call our office and request a GoToMeeting if you are an existing client.
