IRS Trying to Trace Digital Currencies

Arin V., EA , MBA

Arin is an Enrolled Agent (EA), authorized to represent taxpayers in front of the IRS, and holds a BA and MBA (Management) degree from California State University, Northridge.

Are you a U.S. expat or resident of the United States who owns cryptocurrency? If so, you should be aware that the IRS is expanding its visibility into cryptocurrency transactions that enable anonymity and more privacy than standard blockchain-based exchanges.

Cryptocurrency is virtual currency that is transmitted via a decentralized digital network. In September 2020, the Criminal Investigation unit of the IRS requested proposals from vendors for cyber crimes cryptocurrency tools and support as the agency aims to investigate the use of these networks for facilitating illicit activities. Additionally, the IRS also wants to be able to access source code that will enable the assets to be integrated and also scaled into existing systems. Finally, what the IRS is ultimately looking to do is to trace cryptocurrency transaction inputs and outputs to specific users and reveal the details about the exchanges.

However, this is not the first time the IRS has started tracking cryptocurrency transactions. In fact, the agency has already released guidance on the treatment of cryptocurrency, and for the last few years, taxpayers have had to treat cryptocurrency as property, and not currency, on their tax returns.

As part of Phase 1 of the cryptocurrency tracing challenge, the goal is to have the process not exceed 8 months in duration and to be able to demonstrate a proof of concept and a system that should be able to produce useful results on a variety of real-world kinds of cryptocurrency investigative work. Additionally, another goal of the tracing challenge is to establish a clear plan for how this process can be enhanced in the future. A week after the end of the first phase of the process, the vendors that are chosen to move on to the second and last phase will be notified. This second phase of the process will likely last up to 120 days.

The IRS is expected to spend $1 million in funding from fiscal year 2020 for all solutions related to the first phase. As for the second phase, the proposed amount will be determined when the first phase is nearing its completion.

But what does this mean for U.S. taxpayers? If you hold cryptocurrency and have not reported the gains on your tax returns, please reach out to us immediately to discuss your remediation options. Even if you have not sold any cryptocurrency, it would behoove you to have an expert team on your side so that when you do sell, you will know what the tax implications are and can plan accordingly.