For many, the world of virtual currency (or cryptocurrency) is complex at best, murky at worst. When it comes to the tax treatment of virtual currency holdings and transactions, the situation can become even less clear.
In this series of must-read articles, we explore many of the need-to-know tax issues that arise from the acquisition, holding and sale of virtual currencies.
SPECIFIC IDENTIFICATION OF VIRTUAL CURRENCY POSITIONS – The IRS views convertible virtual currency as property, not foreign currency. As such, taxpayers must record and track the tax basis of each unit of virtual currency held in order to property report taxable gain or loss when disposing of a unit or units of virtual currency. This article reviews the IRS’s position with respect to the identification and tax basis of such units.
THE LEGAL EFFECT OF IRS PRONOUNCEMENTS ON VIRTUAL CURRENCY– Given limited guidance by US tax authorities regarding taxation of virtual currency activities, taxpayers with such holdings may find themselves in uncharted territory as to whether to take positions that are contrary to IRS pronouncements. This article explores relevant notices, rulings and FAQs, and reviews the types of deference that courts tend to put on different types of IRS interpretations and guidance.
VIRTUAL CURRENCY LOSSES DISALLOWED ON INFREQUENT ACTIVITIES – If a taxpayer’s virtual currency activities are too infrequent to rise to the level of investment activities or do not qualify as trader or dealer activities, losses associated with virtual currency transactions are not deductible. This article explores tax-law issues that arise in the context of “personal use virtual currency” and reminds taxpayers to be aware of both their intent when acquiring or holding virtual currency and the potential tax implications arising from such activities.
CAN A VIRTUAL CURRENCY POSITION BE TREATED AS A COMMODITY FOR TAX PURPOSES? – Some virtual currency units and positions are treated as commodities by the CFTC and US courts. The IRS has told taxpayers that it views convertible virtual currency as property, not foreign currency, for federal tax purposes. Lacking clear guidance from either the IRS or the Department of the Treasury, this article addresses issues that may help determine whether Internal Revenue Code provisions that apply to commodities might also apply to transactions involving virtual currencies and positions.
CAN A VIRTUAL CURRENCY POSITION BE TREATED AS A SECURITY FOR TAX PURPOSES? – Some virtual currency units and positions are treated as securities by the SEC and US courts. The IRS, however, has told taxpayers that it views convertible virtual currency as property, not foreign currency, for federal tax purposes. Lacking clear guidance from the IRS or the Department of the Treasury, this article addresses issues that may help determine whether Internal Revenue Code provisions that apply to securities might also apply to transactions involving virtual currencies and positions.
WHAT IS THE SIGNIFICANCE OF VIRTUAL CURRENCY NOT BEING TAXED AS CURRENCY?– Virtual currencies are not currently accepted as the legal tender or “fiat” currency of any country. In the United States, the IRS has stated its view that convertible virtual currency is property, subject to the general tax rules that apply to property, and is not foreign currency. As such, virtual currency does not qualify for the special tax rules available to foreign currency transactions. This article explores the major consequences of this rule on taxpayers.
WHEN VIRTUAL CURRENCY POSITIONS ARE SUBJECT TO THE WASH SALES RULE – Under the wash sales rule, taxpayers cannot deduct a loss on the sale of stock or securities if the taxpayer purchases the same or substantially similar assets a short time before or after the sale that triggered the loss. This article examines possible application of the wash sales rule to virtual currencies.
WHEN VIRTUAL CURRENCY POSITIONS ARE SUBJECT TO THE STRADDLE RULES – Taxpayers who hold virtual currency positions may be subject to the tax straddle rules that require them to defer losses on one offsetting position to the extent of unrecognized gain on other offsetting positions. This article explores guidance (or the lack thereof) relating to actively traded personal property, offsetting positions and other issues as applied to virtual currency holdings.
WHEN CAN BITCOIN POSITIONS BE TAXED AS MIXED STRADDLES SUBJECT TO THE SPECIAL MIXED STRADDLE RULES?– Taxpayers who enter into offsetting positions in actively traded personal property where one or more—but not all—of the positions making up a straddle are taxed as section 1256 contracts (while another offsetting position is not a section 1256 contract) are subject to the mixed straddle rules. Potential adverse consequences can be magnified or made more complex by application of these special rules. This article can help taxpayers understand and take action to minimize or avoid these consequences when such positions involve virtual currencies.
CAN VIRTUAL CURRENCY TRADERS ELECT INTO SPECIAL RULES THAT ALLOW CURRENT DEDUCTIONS FOR TRADING LOSSES?– Traders in virtual currency seeking to deduct trading losses and avoid application of the capital loss limitations would want to elect into the special tax rules found at I.R.C. § 475(f). However, such taxpayers should analyze the definitions of “securities” and “commodities,” determine whether they are eligible for either of the trader elections, and consider the federal and state tax implications of making such an election.
TAXATION OF VIRTUAL CURRENCY MINING ACTIVITIES – Proof of work (PoW)—one of the consensus methodologies through which blockchain (digital ledger) transactions can be validated—relies on data miners whose mining activities involve solving complex mathematical calculations. This article discusses key tax issues for miners and the IRS’s preliminary views involving taxation of Bitcoin PoW mining activities.
TAXATION OF VIRTUAL CURRENCY STAKING ACTIVITIES – Stakers—taxpayers involved in proof of stake (PoS) validation of blockchain transactions—are operating in uncharted tax waters. Treasury and the IRS have provided no guidance regarding when or whether staking rewards are included in taxable income. This article reviews various considerations that may help stakers document activities, rewards and expenses that support their federal and state tax positions.
ARE CRYPTO LOANS TAXED AS LOANS? – Transactions involving the borrowing and lending of units of virtual currency (or crypto loans) are increasing in number and type. Lacking Treasury or IRS guidance with respect to crypto loans, potential tax issues that arise from these transactions must be analyzed and understood in accordance with broad, general tax principles established by case law and based on government guidance developed in other tax areas.