Crypto Tax: Dealing with the IRS
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Responding to IRS Notices
Have you received a matching notice from IRS suggesting (for example) that you haven’t properly reported all of your capital gains from Coinbase trades? Don’t panic!
When a taxpayer has capital gains on stocks and bonds, their brokerage house will typically reported both the sale proceeds and the cost basis to IRS on Form 1099-B. Of course, there is no DeFi equivalent of Form 1099-B, so taxpayers must “roll their own” capital gains report on Form 8949.
Imagine that you transferred 100 ETH with a total cost basis of $200,000 to Coinbase on a date when the fair market of ETH was only $1,500, and you subsequently used that ETH to purchase BTC. In IRS’s eyes, you just realized a capital loss of $50,000. However, Coinbase understandably has no idea what your basis was!
The proof of your cost basis falls on you. We can help.
IRS Audits
We have had the dubious pleasure of representing more than a few clients in adversarial proceedings with a real live Revenue Agent. It is a good strategy to always tell the truth (for one thing, it’s easier to remember). At the same time, one does not need to overshare with IRS.
If one’s potential liability is less than $500,000, then you may wish to consider engaging us directly.
If there are inadvertent omissions in a client’s previous filings, we may amend them, working collaboratively with the Revenue Agent. (If you prefer vinegar to honey, hire a tax attorney.) If the client is right and IRS is mistaken, we advocate your position before the IRS. If the Revenue Agent does not agree, we may appeal the decision on your behalf. (We won the last cryptocurrency decision we took to Appeals.)
We are not tax attorneys: if one’s potential liability exceeds $1,000,000, or if you foresee the case winding up in Tax Court, then please hire a tax attorney. However, not every tax attorney deals with cryptocurrency clients on an everyday basis. Your tax attorney can hire us to assist on the audit.
Coming in from the Cold
Reporting cryptocurrency transactions is confusing. Perhaps you did not report them correctly in a prior year? I am happy to help taxpayers come into compliance with Federal and state law.
The lack of clear guidance from the IRS does not relieve you of the obligation to report and pay taxes on "income from whatever source derived." Once the noncompliant taxpayer comes into compliance by reporting overlooked prior-year income, and paying back taxes, penalty, and interest, that taxpayer may have also established that cryptocurrency held today qualifies for long-term capital gain treatment.
If one has failed to report more than (say) $1,000,000 in prior year cryptocurrency income, then one may wish to speak to a tax attorney regarding a voluntary disclosure arrangement. I am not a tax attorney. If you "have a friend" in this situation, I could help your friend find one.
If, however, your friend has failed to report less than $500,000 in prior year cryptocurrency income, then it may make sense for your friend to simply amend the relevant returns and self-assess the various penalties and interest. IRS voluntary disclosure programs may well be overkill for "small fry." This latter course is not risk-free, but IRS is generally disinclined to throw the book at taxpayers making full voluntary disclosures of past errors and omissions.
Is your friend in between these two extremes? Have your friend contact me.