Tax Time: What US Crypto Shops Need to Know
Clearer, more effective tax law in the US would foster the public’s comfort with cryptocurrency and in turn, encourage innovation and economic growth on our shores.
By Mike Minihan, partner, BX3 Capital
Federal government shutdown notwithstanding, January 31 marks the kickoff of the U.S. tax season. For companies of all walks of industry, the first few months of the year involve cracking open the books, taking ever-changing tax laws into account, and finding how to make the most of their profits and losses over the past year. For many firms involved in cryptocurrency — especially any firms that launched less-than-successful ICOs(initial coin offerings) — at first blush, the 2019 tax season may look like a particular time of reckoning.
While tax time often invokes anxiety, there’s good news: It doesn’t have to be a nerve-racking process. Granted, cryptocurrency taxation can be particularly bewildering, if for no other reason than the lack of official guidance on the subject. While the Internal Revenue Code has a scant six out of its 70,000-odd pages devoted to crypto, there are key guidelines that firms involved in virtual currency can take account to streamline tax filings going forward.
And if your crypto firm plowed forward without taxes being a main priority? That’s actually a good thing.
The first thing cryptocurrency firms should take into account is that above all, operations, not tax, should be at the focus of their strategy. Companies need to be mindful about what they want to accomplish, and the most effective way to make that happen. For example, in 2017, many people in the cryptocurrency space were wondering about relocating their residency to Puerto Rico, with their business to be domiciled there as well. While Puerto Rico is a relatively tax-friendly jurisdiction, the island’s unreliable power grid, losing electricity for months at a time would spell the end for technology-based businesses.
Going a step further in the business planning process, although the SEC pushes back on flimsy plans, they aren’t the only ones looking for a clear outline from a company. Most of the established taxing jurisdictions require a level of substance, in country, for an organization’s tax presence to be recognized. Only after a company has set its operational guideposts can a customized tax strategy follow.
After the rout of 2018 in the crypto markets, however, tax planning may not be at the forefront of many crypto enthusiasts’ minds. Rather, a big question for this tax season may be how to handle the cleanup after a lackluster ICO. The first step is to take stock of what really happened to your crypto. Let’s say you were accepting Ethereum (ETH) as part of your ICO raise and at the time of the coin launch, ETH was trading at about $1,000.
The answer on taxes for 2018 is going to be very different if the ETH was immediately converted to fiat, or held without conversion. Early conversions may have preserved the value of the amount raised in the ICO, but it may have also created a large potential tax liability, depending on the nature of the offering.
Even without early conversions, taxable events may have occurred repeatedly, as either ETH was converted to pay for goods and services associated with the business launch, or coins were issued as payment for those goods and services. Job number-one, though, has to be determining what actually happened, so you can start to determine the correct tax treatment.
Beyond the calculations, there are also reporting requirements for US persons. Let’s say you brought on a freelance developer who you were paying in crypto. Any payments to a single vendor in crypto totaling more than $600 will be subject to tax reporting, as well as require issuing 1099s to said vendors in advance of the January 31 deadline.
Future tax seasons may have more clarity for tax professionals and cryptocurrency firms alike. The Token Taxonomy Act, released in late December just before the winter holiday break, provides clear guidelines on what constitutes a “token” and provides for tax-free conversion between cryptocurrencies, as well as a “de minimis” exception from taxation for small crypto-to-fiat conversions.
The tax highlights in the bill include the potential to promote larger-scale investment in cryptocurrency by way of an exemption permitting individual retirement accounts (IRAs) to buy virtual currencies that are not otherwise currencies under Sec. 988. This provision effectively puts many cryptocurrencies on equal status with gold bullion. The Token Taxonomy Act also would revive the applicability of Sec. 1031, the provision for tax deferral of like-kind exchanges, for cryptocurrencies. (Shameless plug: BX3 Capital was proud to introduce this topic to key members of the House of Representatives and crypto industry leaders at the Congressional roundtable on cryptocurrency this past September. If the bill passes, these changes would apply retroactively to January 1, 2017, creating refund opportunities for many who reported taxable cryptocurrency gains on their 2017 tax returns.
Clearer, more effective tax law in the US would foster the public’s comfort with cryptocurrency and in turn, encourage innovation and economic growth on our shores. As cryptocurrency enters its second decade, the US government faces a learning curve in developing regulation that’s responsive to the ever-evolving asset class. For those of us already in the space, as industry pioneers, we will continue to forge new paths with the tax toolkit we have on hand.
Mike Minihan joined BX3 Capital after more than 20 years as an international tax attorney and entrepreneur. He has seen virtually every aspect of international taxation, having worked for the Internal Revenue Service, in private industry, and for Big Four public accounting and tax consultancies KPMG and PwC.
Mike was a founding partner of WTP Advisors, a boutique international tax consulting firm that specialized in assisting the world’s largest companies with tax structuring and compliance issues. After the successful sale of WTP in 2014, Mike joined the International Income Tax practice of Ryan, LLP, a specialized tax structuring and compliance issues. After the successful sale of WTP in 2014, Mike joined the international income tax practice of Ryan, LLP, a specialized tax service firm, where he stayed until his early retirement, at the age of 47.
Mike exited retirement earlier than anticipated to work in the exciting technological revolution that is blockchain to guide BX3’s clients through the highly nuanced legal, financial and tax issues of this nascent space. Mike holds both a BBA (Finance) and a JD from Pace University, and an LLM in Taxation from New York University.