Virtual Currency & Taxation Part 2 (7/8)

Okay. Casualty losses, now, this is a real thing,
virtual currency loss is a real thing. In part one, we discussed the number of virtual
currency disasters that have caused millions and millions of dollars of lost currency. If an exchange goes under and your client
loses virtual currency how do we report it? What are we going to do with that? There are other ways of losing virtual currency. Someone walks into your house and steals your
laptop along with all your virtual currency keys, then what? Your insurance company typically will reimburse
up to $200 of lost currency. If someone breaks into your house and steals
cash, the average insurance company will reimburse up to $200. Picture yourself calling the insurance company
and saying, “No, no, no, the IRS has its property.” [laughs] I’d like to be in on that phone call. All you’re going to get is reimbursement for
the computer that was stolen but that’s it. What do we do with losses? How do we file them on a tax return? Well, I think the safest thing to do even
though we don’t like it, is to report it as a casualty loss or a theft. As we know, that’s an itemized deduction subject
to the 10% and $100 restrictions. Now, if it was a worthless security, we would
report it on Schedule D which would be a capital loss and potentially negate capital gains
and you wouldn’t have to itemize to take advantage of that. I’ve heard this argued both ways, I don’t
know you might say it depends on the situation. I certainly think that the safest thing to
do is really to go ahead and report it as a 10% casualty loss, I’m sorry to say it. Is it lost bank deposit? Well, you don’t know because it’s property. It’s not a lost bank deposit, it’s a lost
67 Chevy pickup. I think that the best practice is going to
be to report it on Schedule A. Now imagine this horrible scenario, your client
buys Bitcoin, trades it for Ether, triggers a capital gain and then the exchange is holding
is Ether goes under. What has happened is, is that your poor guy
now has taxable gain from his trade for Ether but the money that he had is gone. [chuckles] He can’t because he doesn’t have
the money to pay the tax. It gets us into some unfortunate situations
here but I’ve really thought about this hard, I don’t really see a great alternative to
claiming the loss on on Schedule A. If you do decide to go ahead and put it on a Schedule
D, I would certainly add a disclosure statement saying that, “This is what happened.” That, “The exchange went belly up, I’m reporting
it on Schedule D.” See what happens, but at least that way, there’s not a tax fraud issue,
you have disclosed it. Foreign exchanges, this is another fun topic
that we don’t have a ton of direction on. Here’s what we know about foreign accounts. The IRS tells us if we have a financial interest
in or a signature authority over a foreign financial account, such as a bank account,
brokerage account et cetera. They say or other type of foreign financial
account that you need to file an FBAR. What we all know is that if you’ve got $10,000
or more in a foreign bank account or brokerage account, that we have our clients file an
FBAR. The question that we have is, does our offshore
virtual currency account, is that considered a foreign bank account? If I’ve got $10,000 sitting in a Japanese
account, Japanese Foreign Exchange, do I have a foreign bank account? Okay. Now, it’s very much not clear, the IRS has
issued guidance saying that foreign virtual currency exchanges are money service businesses. If I’ve got money in a Japanese exchange,
that’s a money service business. In that case, is it property which IRS told
me it was or is it currency because it’s sitting in a money service business? I don’t know, I’m very confused. To make things just a little more interesting,
in 2014 an employee of the IRS said that for FBAR purposes, Bitcoin is not reportable at
this time. Now, it was never put in writing, it was stated,
no further guidance has been issued since. I just picture the IRS issuing some more guidance
and saying, “Oh, yes and if you didn’t do this, in the years where we didn’t tell you
to do it, we can still charge you penalties.” The penalties for not filing an FBAR if you
needed to is 50% of that value of that foreign account. The penalties are horrific, it’s not like
a couple of dollars. I would say the best practice is tell your
client to file the FBAR, if they choose not to, that’s fine, that’s on them. I would certainly want to be in the position
of having told my client that an FBAR was the safest route, that’s how I would want
to be sitting with that one. It’s not like they’re paying tax, the FBAR
is just a form, they’re not paying any tax. Okay. IRAs, guess what? There really are IRAs that invest entirely
in virtual currency. This is very new stuff, this is just exploding
like mushrooms after the rain and you know what? You treat it just like any other IRA, your
client comes to you and says, “I put money in” You go, “That’s great.” “How much did you put in?” That’s all you care about, it’s exactly the
same as any other IRA, it’s the dollar value of the contribution that they made is what
they get to deduct. If they took Bitcoin and bought directly into
the IRA, then it would just be the dollar value of the Bitcoin at that time, just like
any other contribution. Now, section 1031 exchanges, we have investors
all over the place that are just so so excited by this concept that they can swap Bitcoin
for Ether or anything else and they don’t pay tax. People have assured me very seriously, “No,
it’s a Like-Kind Exchange.” I keep trying to say, “Well, no, it’s not
clear at all that it’s Like-Kind Exchange.” “It’s in fact, very unclear that it’s Like-Kind
Exchange.” Section 1031, if you haven’t bumped into this,
it allows Like-Kind Exchanges of specific kinds of property. What we mean by that is that like I have a
rental house and I’m going to trade it for another rental house. What I’m going to do rather than pay tax on
the gain at that time is, my basis is carrying forward into the second rental house and I
won’t pay tax on that until I sell the second rental house, or however many times I’ve exchanged
it when I sell that final rental house. Okay? That’s the concept. Now section 1031 specifically excludes securities
because obviously, you don’t get to trade AT&T for Comcast and not pay tax. You don’t get to trade securities. Now, certainly virtual currency is not a security. There’s no ownership interest but it’s still
not clear that Bitcoin is Like-Kind to Ether just because they’re both virtual currencies. For example, we had a revenue ruling 79-143
understated that the exchange of US gold coins for Krugerrands were not Like-Kind. When you would think, ” Well, really?” “That’s about as Like-Kind as you can get
two gold coins.” No, the IRS says that one is collector items
and the other is Boolean. Collector items and Boolean or not Like-Kind. They’ve got a different way of looking at
things and on the other hand, Mex$50 gold coins could be exchanged for Austrian 100
Quranic gold coins, because they’re both bullion type coins. You could certainly picture the IRS saying
that Bitcoin software is really different [chuckles] from Ether software sold, the two
coins are not Like-Kind, who knows? All right, but I think that counting on Like-Kind
Exchanges is a mistake and certainly, if you ask these people who have been relying on
Like-Kind Exchanges all this time, “Did you file form 8824 recognizing a Like-Kind Exchange
and the year you exchange it?” There will be this long dead silence because
they never heard of that. They just had this idea of Like-Kind and they
went with it but we as tax preparers know, that no, there is not a Like-Kind Exchange
if you did not file form 8824. A lot of people are getting themselves into
trouble here. If you do decide for whatever reason that
you’re going to let your client use section 1031 you have to include form 8824. I would definitely put in a disclosure statement
and I would definitely be telling this client that if the IRS issues additional guidance
specifically prohibiting these exchanges, that tax return will have to be amended. I think best practices just report the trades
as a sale and subsequent purchase just as a client has sold stock A and purchased stock
B. That’s the safest approach for us. Initial Coin Offerings, people are talking
about ICOs a lot all the time. You’re going to hear this term a lot from
your clients. This is the latest and greatest mad investment
opportunity. Okay. Remember we use to hear a lot about IPOs and
then now we have ICOs. These ICOs are raising millions of dollars
in just minutes. What this is, is the creation of new digital
currencies. For example, Basic Attention Token raised
$35 million in 30 seconds. Aragon raised $25 million in 15 minutes. Something called raised 270 million
in a few hours. What this is, is people are creating new coins. They’re offering the new coins at smoking
deals. People who are remembering the lessons learned
from Bitcoin and Ether and Litecoin are jumping on the bandwagon like crazy, hoping to get
these coins for a couple of pennies. Then a couple years later have them be worth
thousands of dollars. You can understand why people are very excited
about it. People ask me a lot, “I participated in an
ICO, what does that mean?” [laughs] Well, it doesn’t mean anything because
it’s just like anything else. You have paid however much you paid for these
new coins, that’s your basis. Hopefully, you’ve documented it somewhere. You may lose a lot of money you may gain a
lot of money, who knows. The only thing that there is to know for these
clients is record your basis, and the date that you got involved in the ICO. Okay. Finally, tax resolution. There’s going to come a time when you’re preparing
a Form 433 for a client in tax resolution. Virtual currency, of course, is just an asset
with the value equal to the fair market value as of the date of the application for when
you’re signing Form 433. The Internal Revenue manual allows for reduction
in the value of assets for a quick sale but it’s certainly not clear that virtual currency
would fit into a reduction of value. I don’t think you’d get to reduce the value
of it for a quick sale because honestly, you could sell it in three minutes on your exchange. Why would the IRS allow for reduction in value? You might be able to ask them to make a reduction
for the amount of tax they’d have to pay, the taxpayer would have to pay if it was sold. That might or might not fly.

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