Crypto Tax Reporting Likely To ‘Skyrocket’ — Just Not Yet
Exchanges are not yet required to report users’ crypto capital gains and losses to the IRS, leaving that responsibility in the hands of taxpayers
Volodymyr Maksymchuk/Shutterstock modified by Blockworks
Reports suggest many crypto owners have evaded taxes in the past, a trend one industry CEO claimed is likely to continue this tax season.
Tax day is April 18 in the United States, and cryptocurrency holders are among the many citizens setting up their returns.
A January report from TurboTax found that only 2.9% of returns included taxable cryptocurrency transactions for tax year 2021. The study cited a survey by Pew Research Center, which found that 16% of the American population had invested in crypto at that time. The implication being that many crypto users seem to have underreported their dealings during that interim.
About half attributed the lack of reporting to not making profits — a misconception, as losses incurred from trading crypto also count as a taxable event. A smaller portion said they don’t report because they don’t want to, or because the government doesn’t know about their crypto holdings.
“It totally is an underreported asset class,” CoinLedger CEO David Kemmerer told Blockworks. “That’s because the IRS, Treasury and government don’t have as many enforcement rails as they do for other assets.”
Crypto exchanges, such as Coinbase and Binance.US, are not yet required to report 1099-Bs — a form that reports a taxpayer’s capital gains and losses after selling certain assets.
This upcoming requirement is expected to go into effect in 2024 — for tax year 2023 — due to the passage of the Infrastructure Investment and Jobs Act in late 2021. The bill also requires businesses to report crypto transactions of more than $10,000 — the current threshold for cash transactions.
Coinbase, for example, is currently only required to report transactions to the IRS as “miscellaneous income” — via Form 1099-MISC — for customers who earned more than $600 in crypto in the form of staking or rewards income, according to its website.
The company noted that taxpayers are on their own when it comes to reporting capital gains and losses.
“Tax compliance in this space will skyrocket once these exchanges have to report all taxable transactions, which include capital gains and losses — not just income,” Kemmerer said.
Lisa Greene-Lewis, a certified public accountant at TurboTax, said the so-called crypto winter could spur more taxpayers to take action in tax year 2022.
“With changes in the market, we may see tax filers taking advantage of the tax-loss harvesting tax benefit and offsetting crypto losses against gains,” she said.
Tax-loss harvesting is the method of selling investments at a loss to reduce the money owed on income taxes, according to TurboTax. Rules preventing harvested losses on securities like stocks and bonds do not currently apply to crypto.
Retail investors can therefore lock in capital losses on crypto positions and later repurchase the assets. Taxpayers with more than $3,000 in capital losses can roll them forward to offset future gains, or up to $3,000 of taxable income per year.
TurboTax has a number of tools meant to address pain points for crypto investors. Some features include finding a user’s cost basis, offsetting any losses against a given taxpayer’s gains, and allowing tax filers to automatically import up to 20,000 crypto transactions at once. Such utilities could also spur more tax reporting this year, according to Greene-Lewis.
Will the IRS hunt down crypto investors?
For the 2020 tax year, the IRS began requiring taxpayers to answer on Form 1040 whether or not they sold, sent, exchanged or acquired virtual currency.
The question was modified the following year to also ask whether taxpayers disposed of crypto, which Greene-Lewis said clarified what virtual currency transactions should be reported.
The agency has published guidance and resources on how the space is taxed in recent years. The IRS and Treasury Department said last month it was seeking feedback for upcoming guidance regarding the tax treatment of NFTs.
More recently, the IRS obtained a court order requiring M.Y. Safra Bank to share records about taxpayers who may have failed to pay taxes on crypto transactions. The order specifically cited “significant tax compliance deficiencies” in the space.
“The government’s ability to obtain third-party information on those failing to report their gains from digital assets remains a critical tool in catching tax cheats,” IRS Commissioner Charles Rettig said in a statement at the time.
The IRS could also use the 1099-MISC forms it collects as a proxy to determine who it may want to audit, Kemmerer said.
In terms of penalties, the IRS would treat not reporting taxable crypto transactions the same as it would for non-crypto related cases, according to Greene-Lewis.
The typical penalty on unpaid taxes is 0.5% for each month the tax goes unpaid, up to 25%, she added. The IRS could also charge up to 20% of the underpayment of tax in the case of negligence, or “substantial understatement,” she added.
Kemmerer agreed the IRS likely would not penalize crypto investors who fail to report relevant tax details with any greater scrutiny than it would with other potential tax evasion cases.
“But Congress and the IRS have made it a point they believe crypto does represent a larger tax gap than other areas, so it is on their radar,” he said.
An IRS spokesperson pointed to the bureau’s online guidance, but declined to comment further.
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