We told readers earlier this month that the IRS was well-nigh certain to deem Bitcoin to be property, not a currency, and that would deter its use in commerce. We got pushback from Bitcoin defenders, who tried several lines of argument, basically along the lines of “digital currencies are inevitable” and “the tax authorities are irrelevant”.
Today, the IRS has issued a release that states that it regards Bitcoin as tradeable property, which is what tax maven Lee Sheppard had predicted.
More important, the fact that Bitcoin is property means it can be taxed at short or long term capital gains rates, or as ordinary income, depending on the holding period of the Bitcoins in question and the status of the holder (investor v. trader v. Bitcoin miner v. business accepting Bitcoin as payment). The record-keeping burden of having to track Bitcon prices against the dollar at the time of acquisition versus the time of use will be a substantial deterrent to their use in commerce.
The IRS also stated that its view is retrospective, meaning that Bitcoin users, traders, and miners are expected to report income on their personal income filings due April 15 (I wonder if this also means the IRS is expecting Bitcoin-related businesses to amend the returns they filed on March 15, the due date for corporate returns). We are embedding its release at the end of this post.
We also noted that other advanced economies are moving in a similar direction, with Japan having designated Bitcoin as not being a currency and hence subject to capital gains and sales taxes.
Some extracts from media coverage. First, the Wall Street Journal:
In a notice, the IRS said that it generally would treat bitcoin held by investors much like stock or other intangible property. If the virtual currency is held for investment, any gains would be treated as capital gains, meaning they could be subject to lower tax rates….
The IRS notice also made clear that many people involved in handling virtual currencies—and many transactions involving them—would be subject to the same extensive record-keeping requirements, and taxes, as other people and other deals.
Notably, use of bitcoin in a retail transaction typically would be a taxable “event” for many buyers, requiring them to figure out the gain they had made on the virtual currency—and eventually pay tax on it. Tax experts say that could come as a surprise to some investors. It also could put a damper on use of bitcoin for many retail purchases.
The IRS also said that bitcoin “miners”–including people who use computers to validate bitcoin transactions or maintain transaction ledgers—also would be subject to tax on payments received in bitcoin. “Mining” that constitutes a trade or business would be subject to self-employment taxes, the IRS said.
Other people who receive bitcoin for performing services—including employees as well as independent contractors—also would be subject to tax on the fair market value of the virtual currency, the IRS said. Employers typically would have to report wages on a Form W-2, and the payments would be subject to withholding and payroll taxes, the IRS said.
The IRS, faced with a choice of treating Bitcoins like currency or property, chose property. That decision could reduce the volume of transactions conducted with the virtual currency, said Pamir Gelenbe, a venture partner at Hummingbird Ventures, which invests in technology businesses.
“It’s challenging if you have to think about capital gains before you buy a cup of coffee,” he said.
Charles Allen, chief executive officer of BitcoinShop Inc., an online marketplace, said he’d like to see the IRS reconsider its decision as virtual currencies develop.
“The implications this decision will have on the Bitcoin ecosystem are far reaching, and will be burdensome for both individual users of Bitcoins, Bitcoin-focused business and for the general adoption of virtual currencies,” he said, adding that Bitcoin users will adapt to the rules….
Bitcoin miners will have to report their earnings as taxable income with a value equal to the worth on the day it was mined. If they mine as part of a business, they would have to pay payroll taxes as well.
The IRS will require information reporting similar to how the tax agency receives notification of stock transactions and payments to independent contractors.
“The danger is the creation of an electronic black market, similar to the cash economy,” Joshua Blank, a tax law professor at New York University, said in a December interview. “That’s what the IRS wants to avoid.”
The ruling takes effect immediately and covers past and future transactions and tax returns. The IRS said in the notice that it may offer relief from penalties to people who engaged in transactions before today and can show “reasonable cause” for underpayments or failure to file.
At least one Bitcoin enthusiast recognized the implications. Reader Scott A, who had regularly been sending me links to stories on the potential for Bitcoin, sent this message right after the IRS notice hit the wires:
Subject: bad news for btc
- open the way to applying UCC Article 9
- impose a tax burden on businesses accepting btc as payment
Below is the IRS notice.