A final wrinkle that may be unique to Bitcoin due to its treatment as property has to do with "wash sales," in which a taxpayer sells an investment in order to realize a tax loss, only to buy it back immediately thereafter as a bargain. Today, wash sales only seem to apply to "stocks and securities," so Bitcoin traders may be off the hook for now. Since Bitcoin has not been labeled a stock or security (despite its liquidity and the fact that all bitcoins are "substantially identical" under the wash rule test), the IRS could only go after traders for "non-economic substance" transactions under broader property rules. These transactions are similar to wash sales, but given Bitcoin's volatility and the fact that most traders could argue that they made late 2013 trades in response to market-moving news (rather than tax motivations), it seems unlikely that traders could be penalized.

Let's assume, though, that the IRS closes this wash-sales loophole after the public-comment period this summer, or that an Act of Congress changes the law. According to Section 1091 of the tax code, a Bitcoin investor would have to wait at least 30 days before buying more bitcoins if he wanted to realize a loss on another sale of his bitcoins. If Joe keeps his assets in auditable exchanges and hosted wallets, the IRS will likely have the tools to catch him if he claims any improper losses on wash sales; trades within the same account at Bitstamp or Coinbase would likely be flagged in reports required by the IRS.

In reality, though, if Joe had a Bitstamp trading account (in Slovenia), and he transferred some of that money to a Coinbase wallet (in the U.S.) or over to BTC-e (a Bitcoin exchange based in Bulgaria), it would be extremely difficult to nab him for under-reporting wash sales. And if he were really sneaky, he could move assets into and out of personal wallets that may sit in "cold storage" (safety deposit boxes or offshore accounts), which would be nearly impossible to track without advanced blockchain analysis tools. In short, tax evasion would be relatively easy for Joe in an ecosystem where he could "be his own bank."

You can see how the IRS guidance could widen the gap between non-compliant black and gray market Bitcoin participants and the industry's more conformist newcomers.

Having fun yet? So far we've only touched on the trading complexities. Now we can dig into the really crazy stuff. What does it means to have a "taxable event" every time you buy a cup of coffee?

Next: The Most Definitive Bitcoin Tax Guide You Will See Anywhere - Chapter 6: Bitcoin Commerce: Taxable Events - E-commerce Taxation »



comments powered by Disqus
Trading Center