Americans aren’t reporting cryptocurrency gains to IRS — could a clearer tax code & Arizona‘s Bitcoin bill change that?

Far fewer than one percent of Credit Karma’s clients, who had already filed taxes, reported cryptocurrency gains to the IRS (Internal Revenue Service). This comes as a surprise because an earlier survey of 2,000 Americans it conducted found that 57 percent had realised gains from trading in cryptocurrencies.

Undoubtedly, the IRS is expected to pursue any tax evader, as it had in November last year. Through a federal judge, it compelled Coinbase to submit information about users who had traded above $20,000 annually between 2013 and 2015.

The bane of filing tax gains on cryptocurrency

In contrast to how easy it is to trade in virtual currencies, determining taxable gains is unnecessarily complicated. Furthermore, the friction of converting cryptocurrency first to US dollars, while bearing exchange risk, to pay for taxes exacerbates the issue.

No 1099 form —trader required to self-report

Unlike other investments, cryptocurrency exchanges do not provide US citizens with a 1099 form showing taxable gains. Traders need to self-report short-term and long-term gains as ordinary income and capital gains respectively to the IRS.

Ambiguity in tax code

Further, ambiguity in how cryptocurrencies ought to be taxed (and loopholes) contribute to the problem.

It is clear that the US tax authority regards virtual currency as property (for tax purposes), similar to real estate. However, until December last year, no one knew if section 1031 of the tax code exempted like-kind exchanges (trading one property for another) — as in the case for real estate.

Assuming section 1031 applies, traders would be able to avoid taxes when they traded one virtual currency for another (e.g. trading Bitcoins for Ethereum).

Nonetheless, the GOP bill, in December, clarified that section 1031 did not apply to virtual currency. However, it did not specify whether all like-kind exchanges, even before the bill was announced, were affected.

Would the bill be applied retroactively, in which case, all cryptocurrency trades would be taxable? Or does the bill come into effect for trades after 31 December 2017?

There has been no consensus.

Thus, clearer tax codes would have increased reporting.

In addition, the IRS ought to make the same move as the state of Arizona to make it easier for traders.

Arizona pushes bill to collect taxes in Bitcoin and other cryptocurrencies

Arizona State Senate Chamber (Photo by Willem van Bergen)

On February 8, the Arizona Senate passed a bill, by a majority vote, for the state to collect taxes in virtual currency. The bill included a provision to convert crypto-payments into US dollars within 24 hours.

The state’s House of Representatives is now considering the bill. If it passes (high likelihood), it can be enacted as early as 2020.

The bottom line

Aside from being a form of investment, a growing number of e-commerce and brick-and-mortar stores are accepting Bitcoins and other cryptocurrencies as payment.

If the federal government follows Arizona’s move and clarify the tax code, it will make it far easier for law-abiding citizens and businesses to pay their taxes.

Moreover, the value of cryptocurrencies is expected to soar from this hypothetical move. After all, the federal government accepting Bitcoins will give investors, businesses, and consumers greater assurance over the future of cryptocurrencies.

What do you think?