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A Closer Look at the Two Letters Bitcoin Users Received from the IRS

The IRS wants to learn about the transactions of Bitcoin users in the United States. Despite the perceived privacy of Bitcoin and alternative currencies, crypto users are not exempt from taxation.

Anyone who moved cryptocurrency through a centralized exchange are required by law to file their taxes properly. Just last year, the US government won a court order for CoinBase’s customer list.

It is believed over 10,000 letters have been sent to cryptocurrency owners so far. The IRS’ main goal is to ensure everyone reports capital gains and losses on their tax forms correctly.

Recipients may have received one of two letters. Both versions focus on the same aspect, but in slightly different wording. The agency simply reminds cryptocurrency traders to make sure all of the right boxes are filled in when tax season comes around. Recipients of Letter 6174 received an educational letter. This tone is a continuation the IRS’ “compliance campaign” in 2018.

“Virtual currency is considered property for federal income tax purposes,” reads this gentler letter. “Generally, U.S. taxpayers must report all sales, exchanges, and other dispositions of virtual currency. An exchange of a virtual currency (such as Bitcoin, Ether, etc.) includes the use of the virtual currency to pay for goods, services, or other property, including another virtual currency such as exchanging Bitcoin for Ether. This obligation applies regardless of whether the account is held in the U.S. or abroad.”

It adds: “[I]f you believe you didn’t accurately report your virtual currency transactions on a federal income tax return, you should file amended returns or delinquent returns if you didn’t file a return for one or more taxable years.”

Those who receive Letter 6173 need to get in touch with an IRS representative within a few days. In the letters, recipients are asked about their past cryptocurrency holdings. This retroactive approach by the IRS will force letter recipients to go through their old trading or income data.

Most trading platforms make that process straightforward, as they are compliant with existing regulation in the United States. Traders must include transactions which could be considered taxable events. Furthermore, it is pertinent to include any and all cryptocurrencies, tokens, and assets. Outside of trading, information regarding cryptocurrency transfers to buy goods or services must be included as well.

Residents across the US risk civil and criminal enforcement activity if they do not file their taxes accurately. Withholding the relevant information from a  government agency carries risk of fines and penalties. Good thing numerous Bitcoin tax services have sprung to life in recent years. These services allow users to import their transaction history and will provide the correct results accordingly.

As the IRS sets this example, international cryptocurrency users may want to take notice. Other countries may decide to follow this example at any given time. Now is a good time to evaluate one’s portfolio and determine which portion of it should be dedicated to taxable transactions. Those who want to avoid a higher capital gains tax bracket may want to consider locking down some multi-year investments. For those who prefer to continue trading, they must be willing to file their taxes properly in the years to come.

There is a reason why Bitcoin users go through a verification process prior to using an exchange. These service providers are required to identify customer identities. That information is then sent to the proper authorities in countries of operation. By cross-referencing this information, tax agencies can determine if cryptocurrency users filed their tax forms correctly. Failure to do so can result in fines and even more severe penalties.

Lou Vlahos, who is a partner at Farrell Fritz, says a response date in Letter 6173 “tells us that the IRS has some pretty good information (people who got this letter) did not properly report their income or their gains from these virtual currency transactions and that they did not pay the tax.”

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