By Jasjit Basi
Due to the COVID-19 pandemic, new payment methods are replacing traditional payment methods at an increasing rate. People are not only choosing to shop online more, but even in-store shopping is changing. Various countries are making changes to the way payments are processed due to fears that the virus will transfer on paper money, credit cards, and ATMs. Additionally, growing unemployment focused attention on another possible payment method: virtual currencies. In the United States, a proposed version of the stimulus bill included a new virtual currency – a digital dollar maintained by the Federal Reserve Bank. Although this particular version of the bill with the digital dollar did not pass, it is sending positive signals regarding adoption throughout the digital currency world.
Many cryptocurrency traders are convinced that COVID-19 will result in an increased interest in Bitcoin and other cryptocurrencies. For instance, Bitcoin prices increased after the announcement of the draft stimulus bill. For many Bitcoin traders, the stimulus bill solidifies their view that Bitcoin has a place in our society today, and especially in the future. However, there are still many questions and issues that remain for Bitcoin. For one, the tax treatment is in need of further clarification before cryptocurrencies like Bitcoin can replace paper money.
How is Bitcoin Currently Taxed?
The IRS has only issued two rules of guidance regarding the taxation of virtual currencies. The first was a notice in 2014, eight years after the concept of Bitcoin was first introduced. In this notice, the IRS stated that “virtual currency is treated as property,” and “not treated as currency that could generate a foreign currency gain or loss.” The second guidance, a revenue ruling released in 2019, further confirmed that the IRS will continue to treat cryptocurrency as property. Property transactions can have some desirable tax consequences, such as more favorable long-term capital gain tax rates. However, treating cryptocurrency as property also means that cryptocurrency is subject to the realization requirement.
The realization requirement treats every gain from the exchange of cryptocurrency for another good as a “gain from the sale or other disposition of property,” so the taxpayer is required to “recognize” that gain by reporting it in their tax return and paying taxes on it, unless an exception applies. This means that every time the taxpayer buys something at a gain, such as a morning cup of coffee, with their cryptocurrency, the taxpayer will have a reportable tax event. The taxpayer will have to determine their basis in the cryptocurrency, usually the fair market value of the cryptocurrency at acquisition, and then determine the fair market value again at the time of the disposition, before finally finding the difference to calculate the amount of the gain. If a taxpayer is using cryptocurrency regularly to purchase items throughout their day, it can become quite complicated to keep track of the basis and calculate a gain or loss for each transaction. This can be especially cumbersome when the gains are small dollar amounts. However, rules that have applied to foreign currency could work for cryptocurrency.
How is Foreign Currency Taxed?
Foreign currency can also have a gain or loss associated with transactions of that currency that may need to be reported on a tax return, but the tax treatment differs from property taxation. Out of administrative convenience, the IRS imposes a de minimis exemption on these transactions in 26 U.S. Code §988(e)(2) – if the gain is less than $200 USD, the taxpayer does not have a recognizable gain if it is a personal transaction (as opposed to a business transaction). For example, if a taxpayer is travelling to London, and converts USD into GBP for the trip, and converts the GBP back to USD upon returning, the taxpayer may have a gain or loss associated with the differences in the exchange rates. If the gain is under $200 USD, the taxpayer will not have to pay any tax on that gain because it is under the de minimis exemption threshold.
Could a De Minimis Exemption Work for Cryptocurrency?
A de minimis exemption for cryptocurrency transactions could also lead to administrative convenience for taxpayers and the IRS for small, everyday purchases. Two leaders of the Congressional Blockchain Caucus, Representatives Jared Polis and David Shweikert, released a bipartisan bill that would establish a de minimis exemption for transactions under $600 in 2017, called the Cryptocurrency Tax Fairness Act. Although this bill did not pass, efforts have been renewed in 2020, with the Virtual Currency Tax Fairness Act of 2020, introduced by Representatives Suzan Delbene and David Schweikert. This 2020 bill is quite similar to the tax treatment of foreign currency, as it would set the de minimis exemption for transactions under $200 as long as it is a personal transaction.
Proponents are eager to pass the bill to ease the administration of everyday cryptocurrency transactions, but progress has stalled as Congress turns to COVID-19 relief as their top priority. The bill also has its opposition. Some experts warn that an exemption could “invite gamesmanship that would only require more tracking and monitoring of cryptocurrency transactions.”
Where Does This Leave Us?
The cryptocurrency world is developing rapidly, especially with necessary life changes due to the COVID-19 pandemic. Not only is Bitcoin seeing increased interest because of economic uncertainty, but the introduction of digital currency by a central bank could also increase interest in cryptocurrency viability as well. Paper money may be losing its place in the world, and many are turning to the government to guide and incentivize virtual money in everyday transactions, and tax legislation is one part of that effort. The COVID-19 crisis could end up being the reason that many more people turn to their digital wallets instead of their physical ones to ask for that extra shot in their (carry-out) morning latte.