The IRS has started sending letters to taxpayers with currency transactions and who potentially failed to report income and pay tax resulting from the virtual currency transaction or did not report their transactions property.
The IRS began sending these letters last week and expects that more than 10,000 taxpayers will receive such letters.
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Who’ll receive these IRS cyptocurrency compliance letters?
The IRS states that the “names of these taxpayers were obtained through various ongoing IRS compliance efforts.”
One major cryptocurrency tax compliance effort was the 2016 Coinbase John Doe Summons. It obtained the names of all users who had engaged in transactions exceeding $20,000 between 2013 and 2015. I would expect that the information IRS received from this summons will be the primary source for this recent compliance effort but that’s just a guess.
Taxpayers should take these letters very seriously by reviewing their tax filings and when appropriate, amend past returns and pay back taxes, interest and penalties,” said IRS Commissioner Chuck Rettig. “The IRS is expanding our efforts involving virtual currency, including increased use of data analytics. We are focused on enforcing the law and helping taxpayers fully understand and meet their obligations.
IRS Letter 6173 – “respond by due date”
For taxpayers receiving an educational letter, there are three variations: Letter 6173, Letter 6174 or Letter 6174-A, all three versions strive to help taxpayers understand their tax and filing obligations and how to correct past errors.
Letter 6173 states that you have or had one or more accounts containing virtual currency and may not have met your U.S. tax filing and reporting requirements for transactions involving virtual currency for tax years 2013 through 2017.
What you need to do by the respond by date
Taxpayers should take one of the following actions depending on their particular situation:
- If you failed to file one or more income tax returns, file the delinquent returns and report your virtual currency transactions as soon as possible;
- If you made a mistake on your income tax return, such as not reporting your virtual currency transactions or incorrectly calculating your income, gain, or loss; you can file an amended return;
- If you believe you followed all tax and information reporting requirements relating to your virtual currency accounts, mail or eFax the following to the address or eFax number shown at the top of your letter:
- A statement of facts explaining your position. Include a complete history of previously reported income from your virtual currency transactions. Explain the actions you took to become compliant with U.S. reporting requirements and provide copies of previously filed documents that confirm your compliance.
- Your contact information, including your telephone number, complete address, and the address where you receive mail (if different).
- The following statements with your signature and date:
I, declare under penalties of perjury that I have examined this entire document, including all attachments and accompanying statements, and that the enclosed is true, correct, and complete.
I also understand with respect to any submission that the IRS reserves the right to make further contacts with me and my representatives to clarify any written explanation or any other documents. Statements and documents sent under this option will be checked against information received from banks, financial advisors, and other sources for accuracy.
_____________________ Signature _____________ Date
All understatements of tax are subject to penalties and interest.
What happens if you do not respond?
The IRS may refer your tax account for examination. Note that you may request a 30-day extension to respond to this letter.
IRS Letter 6174 and 6174-A – “warning letters”
Letter 6174 is just about the nicest letter I’ve ever seen from the IRS informing that something might be wrong with your tax return, but it should still be taken seriously. One would expect this letter to be sent to taxpayers with minor non-compliance issues. Failure to fix errors after notification from the IRS could establish willfulness. The letter states that “[w]e have information that you have or had one or more accounts containing virtual currency but may not know the requirements for reporting transactions involving virtual currency, which include cryptocurrency and non-crypto virtual currencies.”
Letter 6174-A states that “[w]e have information that you have or had one or more accounts containing virtual currency but may not have properly reported your transactions involving virtual currency, which include cryptocurrency and non-crypto virtual currencies.” It further states that “if you do not accurately report your virtual currency transactions, you may be subject to future civil and criminal enforcement activity.”
What you need to do
You do not need to respond to this letter. You should, however, read the contents of the letter and file amended returns or original returns if necessary. The IRS notes in the Letter 6174-A that they may send other correspondence about potential enforcement activity in the future. If you receive any of the letters and there’s something wrong with your tax returns, amend them before the IRS reaches out to you again. You should assume they have information and are waiting to see if the taxpayer voluntary complies.
When filing amended or delinquent returns, write “Letter 6174” or “Letter 6174-A” at the top of the first page of the return. Mail the original amended or delinquent return to the address as stated in the letter.
Reporting cryptocurrency currency transactions
Virtual currency is considered property for federal income tax purposes. Generally, U.S. taxpayers must report all sales, exchanges, and other dispositions of virtual currency.
Many taxpayers report sales and dispositions of virtual currency, but fail to report exchanges. An exchange of a virtual currency includes: the use of the virtual currency to pay for goods, services, or other property, including another virtual currency such as exchanging Bitcoin for Ether.
This obligation applies regardless of whether the account is held in the U.S. or abroad. You must report virtual currency transactions on your return, regardless of whether you received a payee statement for the transaction (such as a Form W-2, Form 1099, etc.)
Common schedules for reporting virtual currency transactions include the following:
Schedule C
If you were an independent contractor and received payment in virtual currency, you must report it in gross income for the amount of the virtual currency’s fair market value, measured in U.S. dollars, as of the date and time you received the virtual currency.
Gross income derived by an individual from a trade or business, carried on by the individual as other than an employee, is reported on Schedule C. This constitutes self-employment income and is subject to the self-employment tax.
Schedule D
If you sold, exchanged, or disposed of virtual currency (e.g. Bitcoin, Ether), or used it to pay for goods or services, you have engaged in a reportable transaction and may have a tax liability.
These transactions may be reportable on Schedule D. On the tax return, report the virtual currency received at its fair market value, measured in U.S. dollars, as of the date and time of the transaction.
Schedule E
If you received supplemental income in the form of virtual currency, including income from rental real estate, royalties, partnerships, S corporations, estates, trusts, and residual interests in REMICs, you may need to report this on Schedule E.
On the tax return, report the virtual currency received at its fair market value, measured in U.S. dollars, as of the date and time of the transaction
FBAR and Form 8938
As of date, the IRS and FinCen have not indicated whether FBARs or Forms 8938 are required to be filed. Curiously, none of these new letters mention FBAR or Form 8938 filing requirements.
Criminal prosecutions
A number of countries are working together to identify cryptocurrency users involved in tax crimes and money laundering.
The Joint Chiefs of Global Tax Enforcement (known as the J5) comprises the Australian Criminal Intelligence Commission (ACIC) and Australian Taxation Office (ATO), the Canada Revenue Agency (CRA), the Fiscale Inlichtingen- en Opsporingsdienst (FIOD), HM Revenue & Customs (HMRC), and Internal Revenue Service Criminal Investigation (IRS-CI).
The J5 was initially focused on cybercrimes and cryptocurrencies. The IRS CI Chief, Don Fort, stated in a recent conference that the J5 has been investigating cryptocurrencies and is expected to have some successful criminal cases in the next year.