Taxing Cryptocurrency: What CPAs Need to Know

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The 12 years since Bitcoin’s release, it and other cryptocurrencies, like Ethereum, Litecoin, and Dogecoin, have evolved from theoretical flashes in the pan to monetary vehicles with staying power and growing influence. And as cryptocurrencies, which are also referred to as digital or virtual currencies, become mainstream, understanding the evolving tax requirements and helping clients navigate their uses may soon be imperative for every CPA.

“Though the digital assets space is still very much in the early stages, it has enough momentum and real-world usage that the industry is here to stay,” says Illinois CPA Society member Curt Mastio, CPA, managing CRYPTOCURRENCY TAX FILING IN CHICAGO in Chicago. “It will evolve over time—similar to the internet.”

“Cryptocurrency is here to stay for multiple reasons,” adds Shehan Chandrasekera, CPA, head of tax strategy at CoinTracker. “Blockchain technology has a lot of applications in a lot of industries—cryptocurrency is just one of them. Institutions and publicly traded companies are also getting into cryptocurrency by offering crypto-related services and holding Bitcoin on their balance sheets.”

“Cryptocurrency is now front and center,” says Andrew Gordon, CPA, attorney with the Gordon Law Group Ltd. in Northfield, Ill. and a director of the Blockchain Institute. “You now have to ask all clients if they have received, sold, sent, exchanged, or otherwise acquired any financial interest in any cryptocurrency.”

Millions of Owners—and Counting

So, what exactly is cryptocurrency? Put simply, it’s digital currency that’s created, tracked, and traded via decentralized virtual ledgers powered by blockchain technology. Owners manage their cryptocurrencies inside digital wallets that store the keys to decrypt currency and allow it to be used, transferred, or converted into cash. A CRYPTOCURRENCY ACCOUNTANT  indicates about 59 million Americans own some form of cryptocurrency, a number that has risen steadily over the past decade.

“As more individuals and businesses become involved with cryptocurrencies and as avenues for using cryptocurrencies expand, CPAs are beginning to field more questions on this topic,” says Jim Brandenburg, CPA, tax partner at Sikich in Milwaukee. “It’s a rapidly developing area that CPAs should become familiar with.”

“Many in the accounting industry hold a misconception that while cryptocurrency might be growing in popularity, their clients are not involved with it,” says Stephen Eckert, a Chicago-based senior manager in Plante Moran’s national tax office. “Many CPAs are surprised by the number of their clients that are maintaining cryptocurrencies.”

In other words, you’d better make sure if any of those 59 million cryptocurrency holders are your clients—especially as the IRS is targeting cryptocurrency tax evasion more intensely. Although, critics are quick to say the agency is moving too slowly to enforce compliance.

The Tax Outlook

“Digital asset technologies are evolving at lightning speed, while tax and accounting guidance is moving at a methodical pace,” Eckert says. “The current amount of tax guidance related to cryptocurrencies is fairly limited. The IRS is convinced that cryptocurrency transactions are a source of significant underreported income and are aggressively looking for taxpayers who fail to report such transactions.”

The IRS addressed “how existing general tax principles apply to transactions using virtual currency” in CRYPTOCURRENCY TAXES. “The IRS is trying to get its arms around the expansion of cryptocurrencies and is focusing on the potential for fraud and abuse,” Brandenburg says. “It’s important to understand what transactions need to be reported. Not all cryptocurrency transactions are illegal, as some assume, but even legitimate transactions could trigger IRS scrutiny if not properly reported.”

“Some people think that cryptocurrencies are mainly used for illegal activities and tax evasion, but cash is used for more illicit activity than cryptocurrency,” Chandrasekera says. “Plus, cryptocurrency is the worst asset to evade taxes on because there’s a permanent record of your transactions on the blockchain.”

Another misconception to debunk: Taxation actually kicks in on a variety of transactions, not just when cryptocurrency owners cash out.