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Crypto and the IRS, don´t rest assured
This article is about the regulations that the USA started to implement on crypto. Also, it´s about how other countries are also considering legislation to regulate the crypto environment, making this a natural worldwide tendency.
In this article we are not offering legal advice, but
we are describing the current situation of the crypto environment in the US and
the world. If you want a detailed consultation on the best crypto jurisdiction
and most convenient crypto businesses, you can read our articles on Malta, Montenegro,
and Estonia, where we can offer a variety of services. Since each case is
different, we recommend asking for a consultation with our experts as soon as
possible.
Before the famous Foreign Account Tax Compliance Act
or FATCA saw the light of day in the decade of 2000, the IRS conducted many
fishing expeditions in order to understand how the taxpayers were managing to
keep their funds outside the US, and, in some cases, using these strategies to
avoid taxation.
It´s important to keep in mind that the money placed abroad is not always used to avoid taxes, and also the US has an option that’s even recognized by the Supreme Court that states that is legal for the citizens to optimize their tax burden, allowing the establishment of family offices abroad, or accepting in the US the establishment of foreign family offices.
The US are not the only ones trying to research,
analyze and study the uses and applicable taxes of these technology-based
financial instruments. From 21 to 22 of July, 2018, the Minister of Finance of
the G-20 and the governors of national banks of several countries got together
in Buenos Aires, Argentina, in order to discuss a series of international tax
matters, including the crypto boom and the need of government regulation. This
approach was similar to other countries´ approaches towards the regulation of
crypto, such as New Zealand, the United Kingdom, Israel and many others.
The OCDE, for example, has started a work group in
order to assess the cryptocurrencies and their impact in today´s financial
world. In a similar way, companies are increasing the use of cryptocurrencies.
For example, Facebook planned to issue their own payment system based on
cryptocurrency, this project was called “project Libra”. However, the fact that
the environment was not yet ready for a cryptocurrency without banking
regulation, put this project on hold. This makes us think about the future of
this virtual currency, when the traditional banks manage to understand how to
take advantage of this tendency and what would happen then. Will, somehow, the decentralized
nature of the crypto philosophy suffer?
Report on virtual money transactions
The press release gives three examples of letters
(letter from the IRS 6173, letter from IRS 6174, letter from IRS 6174-A), that
are known by many as “the IRS letters”. These letters are intended for
taxpayers to understand their tax obligations and federal reports. The initial
sentence of the letters alone reminds us to the similar one about FATCA:
“(we have) information that you have or have had an
account or more accounts holding cryptocurrency and it´s possible that you
haven´t complied with the tax return requirements of the US for transactions
that involve cryptocurrencies and non-crypto virtual currencies”.
According to this press release issued by the end of
August 2019, the IRS sent more than 10,000 letters to taxpayers who were
suspected of obtaining income from cryptocurrencies without reporting them
during the fiscal years from 2013 to 2017. The warning came from a passive taxation
that encouraged individuals to amend their reports, otherwise they know what´s
coming. If it´s proven that the individual has not reported something, they can
be prosecuted under federal charges.
Such a warning would probably have driven any sane
person to amend the reports as fast as possible, in case they have
crypto-generated income still not disclosed.
However, in order to comply with what the IRS is asking
many doubts arise, and some tax loopholes start to appear.
1. Key aspects of cryptocurrencies and background
Cryptocurrencies, also known as virtual currencies
have been subject to an increasing interest by the government regulators, among
them we can count different countries like Spain, Argentina, Ukraine, South
Korea, Portugal, Mexico, Canada and, of course, the start of this article, the
United States.
The dynamics of the market, the absence of taxes, and their
easy transfer has attracted the attention of many investors, who have seen many
opportunities opening in front of them but at the same time have been targets
of tax authorities, due to the management of the money through channels
different than the usual (banks, stock exchange, etc.). Many say that the cryptocurrency
market is not growing due to the banks´ pressure, while others more
conservative believe that there are many grey areas in these types of
investments that call for immediate regulation. No matter your opinion, the
fact is that the IRS believes that is imperative to tax cryptocurrencies.
When we talk about cryptocurrencies (Bitcoin,
Ethereum, LiteCoin), we are talking about an e-payment system based on
cryptographic proof, that allows the parts to exchange information using the
blockchain technology. This doesn´t require a third party to validate the
transaction (a bank, for example). A blockchain, from an accountant´s point of
view, is similar to a ledger account of all the transactions happening on the
net, but it´s decentralized, meaning the ledger is not kept in only one place
but distributed all over the blockchain. Anyone has access to this information.
Blockchain technology allows participants to confirm transactions
without the need of a third party, thus eliminating commissions.
This ledger account is distributed throughout the
blockchain and each participant can simultaneously have access to the
information, in real time and without possible alteration. Cryptography allows integrity
and security as the information cannot be altered. The participants then become
autonomous entities and the third party becomes obsolete, and we can kiss commissions
goodbye.
The users that supply crypto information to a network
for the creation of new currency are called “miners”. And the mining process is
conducted with state-of-the-art technology capable of designing algorithms that
allow for the insertion of new blocks to the chain, this is why it´s called a
blockchain.
It´s worth mentioning that Bitcoin is an e-payment
system between pairs. It was introduced for the first time in 2008 by an
unknown person or group of persons under the pseudonym Satoshi Nakamoto. What
motivated this group of people was the frustration they felt with the
inadequate response of the central banks upon the market collapse and the
global recession. For this reason, many innovative minds decided to create
Bitcoin as an alternative way of money that could solve the problem of the lack
of trust in the central banks.
In order to better understand the taxation of cryptocurrencies,
it´s imperative to firstly revise the concepts. For example: the terms “cryptocurrency,
“virtual currency” and “digital currency” are usually used as synonyms. These
terms shouldn’t be mixed with “digital money”, which are a platforms authorized
by a regulatory entity where transactions are conducted in fiat money.
A “digital currency” is an exchange based on the
internet but with similar characteristics to the physical money. The “virtual
currency” is a subcategory of the digital currency and the banking authority of
Europe defines it:
“Virtual currency”: a digital representation of value
that is not used by a central bank or a public authority nor is necessarily
linked to fiat money, but it´s accepted by individuals or legal entities.
Cryptocurrency is a subcategory of virtual currency in
which crypto technics are used to regulate the generation of units of currency
and verify the transparency of the funds. A wallet or e-wallet is a platform
where cryptocurrencies are acquired, can be exchanged, and stored. Once an
e-wallet is created, the owner can access, use, or transfer the currencies. In
a way, an e-wallet is like a bank account, but it exists only on the
blockchain.
The most common virtual currency is Bitcoin. However,
there are many others, called altcoins, that include Ethereum, Ripple,
Litecoin, Dash, etc. There is also Bitcoin Future, which are similar to a
forward or a swap where you set a date to acquire a future for a price fixed
today. On the other hand, we have “hard forks”, which is only a change in
protocol dividing the crypto in 2 (for example, where Bitcoin is divided into Bitcoin
Cash).
A “hard fork” results in two currencies based on the
blockchain. It is also important to understand: what is an airdrop of
cryptocurrency? This means when a blockchain distributes tokens or currencies
into the community as a protocol. In general, in order to receive this currency,
the taxpayer must already own relevant cryptocurrency from the blockchain (Bitcoins
or Ethereum). Lastly, the ICO (Initial Coin Offering) are developers, companies
and individuals that use ICOs or token exchanges to raise capital. The buyers
can use fiat money (for example, American dollars) or virtual currency in order
to buy currency or virtual tokens.
The bitcoin Exchange allows for users to buy and sale
virtual currency for other virtual currencies or fiat money as well. It´s an
Exchange platform that facilitates crypto trading with fiat money (e.g. Bitcoins
in exchange for dollars, Ethereum in exchange for Bitcoin and so on).
The Exchange connects buyers and sellers. Users
deposit fiat money in the process of exchange by sending funds (bank transfer, PayPal,
or credit cards) to the Exchange before the operation. The exchange will charge
a commission for the transaction.
The appeal of Bitcoin as a virtual currency is derived
from the auto verification where users can instantly transfer funds to another
person with a bitcoin wallet as if they were paying in cash. There are already
many stores that accept bitcoin as a legit payment method.
2. Taxation of cryptocurrency in the USA
IRS guide
In March 2014, the IRS published a guide on taxation
of crypto. As an introduction, the IRS analyzes whether a cryptocurrency should
be classified as currency or as property for income tax purposes.
In general, virtual currency is defined as “digital
representation of value that work as a means of exchange, a unit of measure or
value”. Virtual currency is defined as a subcategory of digital currency or one
that “has the equivalent value to real currency or acts as substitute for real
currency”. Therefore, it´s probable that this announcement doesn’t contemplate
tax on other ways of cryptocurrency, like the “smart contract” (Ethereum). A
smart contract is a computer protocol that automatically executes the terms in a
bilateral or multilateral agreement without an intermediary.
Taxation of virtual currency
When it comes to taxes, the IRS has made it clear
that, when it comes to federal income tax, cryptos must be considered property.
The general fiscal principles applicable to transaction of property must be
applied to transaction of cryptocurrency. Therefore, the rules that apply to
taxation of currency under the subchapter J of the Tax Code are not applicable.
This means that cryptocurrency can´t generate profit or loss when it comes to
federal tax in the US.
Taxation of mining activities
A taxpayer that mines the virtual currency obtains
gross income at the market value at the date of receipt. Also, if the “extraction”
of the cryptocurrency by a taxpayer constitutes a business, the taxpayer doesn’t
conduct the mining activity as an employee. The IRS requires that the net
profit for this independent worker is considered and taxed under
self-employment category.
Conclusion
To sum up, it is clear that cryptocurrencies are here
to stay. Regulations by the IRS to enforce the payment of taxes over these
assets have just started and it appears they won´t stop until this area is also
another big brother jurisdiction. The same way once the taxpayers didn´t
believe that the FATCA could reach their accounts in the safe havens, the
current American citizens that hold assets in cryptocurrencies shouldn’t rest
so assured. The big fat taxation monster is coming to get you, eventually. For
this reason, we recommend having a strategy or plan B to protect your digital
assets from the big brother´s reach.
One of Mundo´s favorite strategies is the Forever Free
package, which is a unique structure, carefully drafted by the best financial
experts in the world. Through this structure you will complete five steps that
will get you and your family free of taxation and free of movement in
perpetuity.
If you are interested in our forever free package, you
can read all the details in this article.
If you are interested in running a cryptocurrency
business, Mundo has partners in Malta, Montenegro and Estonia,
where you can get excellent e-wallet services and conduct your own crypto
business. The creators of Google and Facebook were once regular entrepreneurs
like you and me and now they have come to build empires. If you want to change
the world you have to be on the right side, and that is innovation. Be
innovative and create your crypto business and a forever free strong structure that
will protect it literally forever.
Are you interested? Contact us now for a consultation
with our experts.
Based on an article by Jorge Garcia
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