Virtual currency, commonly known as cryptocurrency, has surged in popularity since the IRS began formally tracking virtual currency in 2014. Under IRS rules for virtual currency, cryptocurrency is considered as property, and gains or losses from virtual transactions are to be reported the same as other capital gains or losses. While virtual currency is still an emerging technology, the IRS has stayed ahead of the curve and maintains a watchful eye on those trading in crypto.
Many newcomers to the virtual currency market might not know what to report and how to properly report their investments in cryptocurrency. Ignorance is no excuse, however, and both the IRS and Department of Justice have been aggressive in locating and prosecuting those that conceal income or profit from virtual currency. Law enforcement and tax authorities have made it clear that transacting in cryptocurrency does not exempt people from paying income taxes and reporting the gains made in virtual currency.
The IRS treats virtual currency the same as other property such as stocks or gold, and capital gains or losses need to be reported on a taxpayer’s Schedule D and Form 8949 as necessary when taxes are filed.
Avoiding an IRS Audit for Cryptocurrency
IRS audits slowed down during the pandemic but taxpayers can expect to see an increase in enforcement and audits in 2023 and beyond. One area of focus for the IRS will certainly be virtual currency holdings and whether gains are being accurately reported.
Some common triggers for IRS audits, particularly for crypto investors, include:
- Missing documents. Mismatched or missing financial documents can lead to a virtual currency audit.
- Large spending or deposits. Since the IRS requires business to notify them of transactions that are $10,000 or higher, using proceeds from crypto sales to pay for other items, or make large cash deposits, can bring invite scrutiny from tax auditors.
- Unreported income. Virtual currency exchanges will send 1099-B or 1099-K forms to investors that exceed certain transaction thresholds each year. The IRS receives copies of these as well, and may audit if they don’t see that you’ve submitted your completed forms to report virtual income.
- High levels of income. If you are doing well enough in the crypto trading or investment market to earn $400,000 annually or more, that is great news for you. But it can also lead to an audit from the IRS, which pays special attention to high earners – especially those dealing in virtual currency.
- Mathematical and accounting errors. These types of mistakes can trigger an audit for anyone, but particularly those investing in the emerging digital currency market. A simple mistake by a taxpayer or accountant can seem like something more to the IRS, unfortunately. Given the complexities involved with virtual currency, it is always best to maintain accurate records of all transactions throughout the year to avoid headaches at tax time.
What to Do if the IRS Initiates an Audit for Virtual Currency
Despite your best efforts, you might someday receive notice of an IRS audit related to virtual currency investments. The audit could have been triggered randomly through the IRS’s statistical formula, or it could have been triggered by seemingly unusual activity. In some situations, your transactions with another individual or business that is under audit can bring unwanted attention to your own taxes.
During an audit, auditors will review financial records including your virtual currency investment history and gains realized, along with your bank account statements, credit card statements, loans, tuition, mortgage, and other expenses. Sometimes, if your expenses greatly outweigh your reported income, that can be a red flag to auditors, leading to further investigation.
When it comes to reviewing cryptocurrency data, the IRS will refer those matters to their own crypto experts if needed. These experts will help guide the IRS examiners – many of whom might not be well-versed in virtual currency details themselves.
The audit process timeline can vary depending on the complexity of your finances and issues involved. A taxpayer will typically receive a report of the IRS findings once the process is complete. From there, they will have 30 days to appeal the decision if they disagree with the findings or penalties were assessed.
In more serious cases, the IRS might refer the matter to the Department of Justice for review of potential tax fraud or evasion.
At any point in the audit process, it helps to have a skilled legal team at your side that has experience defending those accused of any type of tax fraud or underreporting. The attorneys at Trombley & Hanes in Tampa, Florida have years of experience helping those accused of tax crimes or any type of white collar crime and can help you understand more about your rights during a tax audit.
The Tampa Criminal Defense Attorneys at Trombley & Hanes Will Defend Clients If They Face an Audit or Criminal Investigation Related to Virtual Currency
Along with the rise in popularity for virtual currency has come a rise in attention from tax authorities. Some crypto traders purposefully engage in illegal tax schemes and even outright fraud, which leads to increased scrutiny on all other users of digital currency. If you find yourself under investigation or audit for any reason, call the Tampa white collar crime attorneys at Trombley & Hanes. We will work with you to clear up any issues and address disputes with tax investigators. To learn more, call our office today at 813-229-7918, or visit our firm online.
Source:
irs.gov/pub/irs-drop/n-14-21.pdf
