FAIR WARNING: I'm not an accountant, nor a lawyer, nor a tax professional. What you are about to read is my opinion and should not be considered tax advice no legal advice. These are just my personal observations.
The IRS established today that for tax purposes digital currencies are not currencies, but property.
Thus, transactions, payments, purchases and capital gains from bitcoin will be taxed by the IRS.
Too bad they won't be able to enforce the taxation. At least not entirely. Here's why:
Under the IRS guidelines there are 3 possible ways for taxing bitcoins:
1. As capital gains if the value of purchased bitcoins for the purpose of investment increases over time.
This taxation can only be enforced IF the IRS can prove the user bought the bitcoins and still holds them. The purchase can be proven if the coins were purchased through identifiable bank wires or withdrawals. But if the coins are moved to another wallet, say, a new wallet created on Bitcoin Core, unattached to a website, the IRS would have to prove the buyer is actually the owner of the second wallet and is in possesion of the wallet. Good luck with that.
Then again, according to the IRS, the buyer has to report transactions worth 600 dollars or more, so if the buyer moves the bitcoins to another wallet, the buyer has to tell the IRS what the coins were used for. The thing is, if the buyer claims it was a gift and no longer holds the bitcoins, the IRS would have to prove it wasn't. Again, good luck with that.
Plus, capital gains happen only after selling the bitcoins. So even if the price goes up, how can you prove there was a capital gains event if you never sold the bitcoins? How is the IRS going to prove somebody who spent 100 dollars on bitcoin now has 150 if the property was not sold?
2. As self-employment income.
Miners and independent contractors paid in bitcoin must report to the IRS the value of their earnings in bitcoin at the time of payment. In this sense, earnings in bitcoin are considered regular income and one would assume that the only way to tax capital gains would be if the price for the bitcoins raises from the reported price at time of receipt.
The problem here is there is no unifed bitcoin price. Every trading site has a different price. Therefore, miners and independent contractors could claim the value of their bitcoins is based on the prices for the trading site with the lowest rates.
But there's more. If bitcoins earned by miners and independent contractors are not considered an investment, but self-employment income, then what happens if you buy a business meal with bitcoin? It's supposed to be a deduction. But the IRS claims the bitcoin purchase could be subject to capital gains. So which one is it? A business deduction or a capital gains event? Because even if the bitcoin price goes up, you are still spending it, not earning it.
Therefore, how is the IRS going to tax something that's literally a loss?
3. As regular income from an employer.
The thing here is in order to pay bitcoin to an employee, the employer must withhold income tax in fiat first. The IRS could only tax the fiat equivalent reported by the employer if the amount withheld isn't enough.
Here's the tricky part: Technically the employee must purchase groceries, pay rent, transportation, etc, using his income in bitcoin. So at the end of the month the employee is left with less bitcoins. If the price for bitcoin goes up, then technically it's a capital gains event. But the IRS will already tax the employee for his income. If on top of that the IRS wants to tax capital gains, then wouldn't that be double taxation on the same income? And even if it was additional taxation only on the appreciation of the coins, then is the income regular taxable income or is the income an investment?
Therefore, how is the IRS going to collect taxes twice for a supposed investment on something they said is regular income at first?
I suppose it's the equivalent of saying it's the same as taxing people who get paid with stock, but there's a problem: you can't buy a pizza with stock. Stocks do not have the same behavior as currency. Bitcoin does. Therefore, it can't really be treated the same.
My guess is the IRS will want to treat bitcoin as currency when it's convenient, but the IRS already said bitcoin is property! Hence, something tells me at some point somebody is going to sue the IRS for treating bitcoin as property.
At any rate, the IRS requested comments from the public in regards to its bitcoin tax guidelines. Here's what the IRS said:
"The Treasury Department and the IRS recognize that there may be other questions regarding the tax consequences of virtual currency not addressed in this notice that warrant consideration. Therefore, the Treasury Department and the IRS request comments from the public regarding other types or aspects of virtual currency transactions that should be addressed in future guidance.
..
"Alternatively, taxpayers may submit comments electronically via e-mail to the following address: Notice.Comments@irscounsel.treas.gov. Taxpayers should include “Notice 2014-21” in the subject line. All comments submitted by the public will be available for public inspection and copying in their entirety."
I don't know. Seems to me the IRS got itself into a fine mess by taxing something that's not regulated yet and still has too many kinks to iron out precisely because of lack of regulation.
My take on it? Bitcoin should only be taxed when it is sold for fiat. It should not be taxed if it's mined unless the miner sells it for fiat. If an independent contractor gets paid in bitcoin, the bitcoins should not be taxed if they are used directly for purchases. Only if fiat is received in exchange for the bitcoins.
Because if you think about it, a purchase could actually be a deduction. So how is the IRS going to tax something that's supposed to be a loss?
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