Using Bitcoin to buy a sandwich could trigger a tax bill-commentary

Early-adopters of crypto currency decried the IRS announcement that crypto currencies would be subject to tax as if they were exchanges of property. Their claims that overregulation and taxation of the nascent crypto currency ecosystem overburden and stifle the development and growth of this revolutionary new technology are not wrong. At the same time, it is not at all realistic to believe that the multi-billion dollar market in crypto currencies could, or even should, escape the attention of the tax man.

Many people are drawn to Bitcoin, or other “decentralized” crypto currencies, because they believe it allows them conduct transactions anonymously. And some have relied on that sense of anonymity to use crypto currencies to engage in illegal transactions. Unfortunately for them, however, bitcoin and other crypto currencies are not anonymous. The IRS has developed block chain tracking technology that allows them to ferret out users despite the reputed anonymity that Bitcoin addresses provide.

As Bitcoin’s own website explains, “All Bitcoin transactions are stored publicly and permanently on the network, which means anyone can see the balance and transactions of any Bitcoin address.” Indeed, using cash still offers more anonymity than a digital currency.

Recently, the IRS has gotten more serious about ferreting out bitcoin holders who are not reporting and paying their taxes. Just last year, the Justice Department filed a court petition to access the identities of Bitcoin traders who use the crypto currency trading platform, Coinbase. As part of that petition, the department cited the high likelihood that Bitcoin users were evading their tax liabilities. This case illustrates how the IRS still considers the use and acceptance of crypto currencies as a potential red flag that illegal activity is taking place.

Fortunately, there may be some relief in sight for those who wish to incorporate crypto currencies into their everyday lives. Just last month, Reps. Dave Schweikert (R-Ariz.) and Jared Polis (D-Colo.) introduced legislation to make relatively small dollar crypto currency transactions — up to a value of $600 U.S. dollars — tax-free. This means that people could engage in as many crypto currency transactions as they want — and there would be no obligation to track, report or pay tax on the transactions — as long as each transaction stays under the $600 threshold. Larger transactions that exceed $600 would have to be reported to the IRS.

A law like this would be an unusual amendment to the Internal Revenue Code because there are very few de minimus exceptions in the tax law. Typically, gains and losses are taxable no matter how small because a large volume of small transactions can ultimately add up to a large amount of money.

Regardless of how unusual the new legislation may be, it is an excellent idea because it strikes an appropriate balance between the need to regulate and tax crypto currencies on the one hand and the need to provide the space and freedom for technologies like crypto currencies to grow and potentially change our everyday lives on the other hand.

The new legislation will go a long way toward relieving the tax anxiety of enthusiastic crypto currency users. However, as is often the case with our famously complex tax code, there can be unintended consequences. If the bottom suddenly drops out of the bitcoin market and millions of bitcoin holders are left with losses on their investment, they may long for the day when every bitcoin transaction could have generated a tax-saving loss deduction!

Commentary by Bryan Skarlatos, a partner at Kostelanetz & Fink, a white collar and tax controversy law firm located in New York and Washington, D.C. Skarlatos has been recognized by New York Super Lawyers as one of the Top 100 lawyers in New York, and he teaches a course on tax penalties and prosecutions at New York University School of Law.

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