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10,000 Cryptocurrency Owners Will Receive Warning Letters From The IRS

10,000 Cryptocurrency Owners Will Receive Warning Letters From The IRS

After years of analyzing data from third parties involved in the cryptocurrency exchanges, the IRS announced in a press release on July 26, 2019 that it has started sending letters to cryptocurrency owners advising them to report their cryptocurrency transactions and pay their taxes. More than 10,000 taxpayers have been identified by IRS as being involved in cryptocurrency transactions but who the IRS believes may not have been compliant in reporting these transactions on their tax returns.

Taxpayers who do not properly report the income tax consequences of virtual currency transactions are, when appropriate, liable for tax, penalties and interest. In some cases, taxpayers could be subject to criminal prosecution.

Notices Being Sent To Taxpayers Are The First Step In IRS Enforcement Action

The IRS is using three types of notices to send to more than 10,000 taxpayers by the end of August 2019 – notices 6173, 6174 or 6174-A. Of all the notices, Letter 6173 requires a signature from the recipient under perjury that they are compliant with the U.S. tax code.

If you receive Letter 6173, you should consult with a tax attorney as the submission of a statement signed under penalties of perjury that is false can result in serious consequences including criminal prosecution.

Virtual currency is an ongoing focus area for IRS Criminal Investigation.

Last year the IRS announced a Virtual Currency Compliance Campaign to address tax noncompliance related to the use of virtual currency through outreach and examinations of taxpayers. The IRS will remain actively engaged in addressing non-compliance related to virtual currency transactions through a variety of efforts, ranging from taxpayer education to audits to criminal investigations.

Taxation Of Cryptocurrency

Cryptocurrency transactions are apparently wildly taxable – far more so than investors may think. Although the IRS has not issued much formal guidance, the position of IRS is that any transaction involving virtual currency can trigger a taxable event including air drops and fork transaction as well as conversions or trades from one virtual currency to another virtual currency.

The IRS in 2014 issued Notice 2014-21 stating that it treats crypto currency as property for tax purposes. Therefore, selling, spending and even exchanging crypto for other tokens all likely have capital gain implications. Likewise, receiving it as compensation or by other means will be ordinary income.

Some would think that if bitcoin is property, trades should be tax deferred under the like-kind changes rues of I.R.C. §1031. Under that theory someone who owned Bitcoin could diversify their holdings into Ethereum or Litecoin, and plausibly tell the IRS it created no tax obligations. Unfortunately, the new Tax Cuts & Jobs Act of 2017 does away with that loophole making it clear that “like kind exchanges” which lets people swap an asset for a similar one without triggering a tax obligation are not available for non-real estate assets.

While Bitcoin receives most of the attention these days, it is only one of hundreds of crypto currencies. Everything discussed with regard to bitcoin taxation applies to all crypto currencies.

Here are the basic tax rules followed by IRS on specific crypto currency transactions:

  • Trading crypto currencies produces capital gains or losses, with the latter being able to offset gains and reduce tax.
  • Exchanging one crypto currency for another — for example, using Ethereum to purchase an altcoin — creates a taxable event. The token is treated as being sold, thus generating capital gains or losses.
  • Receiving payments in crypto currency in exchange for products or services or as salary is treated as ordinary income at the fair market value of the coin at the time of receipt.
  • Spending crypto currency is a tax event and may generate capital gains or losses, which can be short-term or long-term. For example, say you bought one coin for $500. If that coin was then worth $700 and you bought a $700 gift card, there is a $200 taxable gain. Depending on the holding period, it could be a short- or long-term capital gain subject to different rates.
  • Converting a crypto currency to U.S. dollars or another currency at a gain is a taxable event, as it is treated as being sold, thus generating capital gains.
  • Air drops are considered ordinary income on the day of the air drop. That value will become the basis of the coin. When it’s sold, exchanged, etc., there will be a capital gain.
  • Mining crypto currency is considered ordinary income equal to the fair market value of the coin the day it was successfully mined.
  • Initial coin offerings including certain forks do not fall under the IRS’s tax-free treatment for raising capital. Thus, they produce ordinary income to individuals and businesses alike.

Given the limited guidance by IRS, there are still tax positions that can be advocated or structured so that taxpayers dealing with crypto currency can defer gains and minimize taxes. That is why it is essential you seek qualified tax counsel.

Penalties For Filing A False Income Tax Return Or Under-reporting Income

Failure to report all the money you make is a main reason folks end up facing an IRS auditor. Carelessness on your tax return might get you whacked with a 20% penalty. But that’s nothing compared to the 75% civil penalty for willful tax fraud and possibly facing criminal charges of tax evasion that if convicted could land you in jail.

Criminal Fraud – The law defines that any person who willfully attempts in any manner to evade or defeat any tax under the Internal Revenue Code or the payment thereof is, in addition to other penalties provided by law, guilty of a felony and, upon conviction thereof, can be fined not more than $100,000 ($500,000 in the case of a corporation), or imprisoned not more than five years, or both, together with the costs of prosecution (Code Sec. 7201).

The term “willfully” has been interpreted to require a specific intent to violate the law (U.S. v. Pomponio, 429 U.S. 10 (1976)). The term “willfulness” is defined as the voluntary, intentional violation of a known legal duty (Cheek v. U.S., 498 U.S. 192 (1991)).

And even if the IRS is not looking to put you in jail, they will be looking to hit you with a big tax bill with hefty penalties.

Civil Fraud – Normally the IRS will impose a negligence penalty of 20% of the underpayment of tax (Code Sec. 6662(b)(1) and 6662(b)(2)) but violations of the Internal Revenue Code with the intent to evade income taxes may result in a civil fraud penalty. In lieu of the 20% negligence penalty, the civil fraud penalty is 75% of the underpayment of tax (Code Sec. 6663). The imposition of the Civil Fraud Penalty essentially doubles your liability to the IRS!

What Should You Do?

The IRS has not yet announced a specific tax amnesty for people who failed to report their gains and income from Bitcoin and other virtual currencies but under the existing Voluntary Disclosure Program, non-compliant taxpayers can come forward to avoid criminal prosecution and negotiate lower penalties.

With only several hundred people reporting their crypto gains each year since Bitcoin’s launch, the IRS suspects that many crypto users have been evading taxes by not reporting crypto transactions on their tax returns. 

And now that likeexchange treatment is prohibited on non-real estate transactions that occur after 2017, now is the ideal time to be proactive and come forward with voluntary disclosure to lock in your deferred gains through 2017, eliminate your risk for criminal prosecution, and minimize your civil penalties.  Don’t delay because once the IRS has targeted you for investigation – even if it is a routine random audit – it will be too late voluntarily come forward. Let the Bitcoin tax attorneys at the Law Offices Of Jeffrey B. Kahn, P.C. located in Orange County (Irvine), San Francisco Bay Area (including San Jose and Walnut Creek) and offices elsewhere in California get you qualified into a voluntary disclosure program to avoid criminal prosecution, seek abatement of penalties, and minimize your tax liability. Additionally, if you are involved in cannabis, check out what a cannabis tax attorney can do for you.

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Do You Have A Business That Involves Transactions In Cash? Beware Of IRS Required Filings That If Not Followed Could Lead To Penalties And Jail-time.

While there is no law making it illegal to transact business with cash, the IRS has an interest in requiring parties to report cash transactions to deter those who evade taxes, profit from the drug trade and engage in terrorist financing and other criminal activities. The government can often trace money from these illegal activities through the payments reported on this and other cash reporting forms.  This is particularly true as more and more states are allowing the sale of cannabis at the medical and/or recreational level.

Bank Secrecy Act – Reporting Of Cash Payments.

Since 1970, the Bank Secrecy Act (“BSA”) requires financial institutions in the United States to assist U.S. government agencies to detect and prevent money laundering. Specifically, the BSA requires financial institutions to keep records of cash purchases of negotiable instruments, and file reports of cash purchases of these negotiable instruments of more than $10,000 (daily aggregate amount), and to report suspicious activity that might signify money laundering, tax evasion, or other criminal activities. The BSA requires any business receiving one or more related cash payments totaling more than $10,000 to file IRS Form 8300, Report of Cash Payments Over $10,000 Received in a Trade or Business.

The minimum penalty for failing to file EACH Form 8300 is $25,000 if the failure is due to an intentional or willful disregard of the cash reporting requirements. Penalties may also be imposed for causing, or attempting to cause, a trade or business to fail to file a required report; for causing, or attempting to cause, a trade or business to file a required report containing a material omission or misstatement of fact; or for structuring, or attempting to structure, transactions to avoid the reporting requirements. These violations may also be subject to criminal prosecution which, upon conviction, may result in imprisonment of up to 5 years or fines of up to $250,000 for individuals and $500,000 for corporations or both.

Electronic Filing Of Form 8300, Report of Cash Payments Over $10,000.

Although businesses have the option of filing Form 8300, Report of Cash Payments Over $10,000, on paper, there is the option to e-filing this form especially since the deadline to file the form is 15 days after a reportable cash transaction occurs.Businesses that file Form 8300 electronically get free, automatic acknowledgment of receipt when they file and since the reporting involves no IRS personnel interaction, it could arguably lower scrutiny by the IRS. To file Form 8300 electronically, a business must first set up an account with the Financial Crimes Enforcement Network’s BSA E-Filing System.

For more information about the reporting requirement, you can check out the fact sheet put out by IRS atFS-2019-1 which among other things includes reporting scenarios for specific businesses, such as automobile dealerships, taxi companies, landlords, colleges and universities, homebuilders and bail-bonding agents.

Financial Crimes Enforcement Network (“FinCEN”).

FinCEN is a bureau of the U.S. Department of the Treasury. The Director of FinCEN is appointed by the Secretary of the Treasury and reports to the Treasury Under-Secretary for Terrorism and Financial Intelligence. FinCEN’s mission is to safeguard the financial system from illicit use and combat money laundering and promote national security through the collection, analysis, and dissemination of financial intelligence and strategic use of financial authorities.

FinCEN carries out its mission by receiving and maintaining financial transactions data; analyzing and disseminating that data for law enforcement purposes; and building global cooperation with counterpart organizations in other countries and with international bodies.

FinCEN exercises regulatory functions primarily under the Currency and Financial Transactions Reporting Act of 1970, as amended by Title III of the USA PATRIOT Act of 2001. Under this authority the Secretary of the Treasury is to issue regulations requiring banks and other financial institutions to take a number of precautions against financial crime, including the establishment of AML programs and the filing of reports that have been determined to have a high degree of usefulness in criminal, tax, and regulatory investigations and proceedings, and certain intelligence and counter-terrorism matters. This authority has been delegated to FinCEN.

The basic concept underlying FinCEN’s core activities is “follow the money.” As FinCEN believes that the primary motive of criminals is financial gain, and they leave financial trails as they try to launder the proceeds of crimes or attempt to spend their ill-gotten profits. FinCEN shares the information it receives and analyzes with other law enforcement agencies to investigate and hold accountable a broad range of criminals, including perpetrators of fraud, tax evaders, and narcotics traffickers. More recently, the techniques used to follow money trails also have been applied to investigating and disrupting terrorist groups, which often depend on financial and other support networks.

What Should You Do?

The IRS scrutinizes in any cash-based business the amount of gross receipts to report and it is harder to prove to the IRS expenses paid in cash.  However, this should not undermine the importance that the proper facilities and procedures be set up to maintain an adequate system of books and records which even in an environment of running a business without a traditional bank is possible.

If your business activities involve transactions in cash you need to protect yourself and your investment by engaging the cannabis tax attorneys at the Law Offices Of Jeffrey B. Kahn, P.C. located in Orange County (Irvine), San Francisco Bay Area (including San Jose and Walnut Creek) and other California locations. We can come up with tax solutions and strategies and protect you and your business and to maximize your net profits.

IRS Voluntary Disclosure Program – It’s Not Just For Undisclosed Foreign Bank Accounts.

A tax crime is complete on the day the false return was filed.

It is a federal crime for anyone to knowingly and willfully file an income tax return that he or she knows to be false in some material way. 26 U.S.C. § 7207 provides:

Any person who willfully delivers or discloses to the Secretary any list, return, account, statement, or other document, known by him to be fraudulent or to be false as to any material matter, shall be fined not more than $10,000 ($50,000 in the case of a corporation), or imprisoned not more than 1 year, or both. Any person required pursuant to section 6047 (b), section 6104(d), or subsection (i) or (j) of section 527 to furnish any information to the Secretary or any other person who willfully furnishes to the Secretary or such other person any information known by him to be fraudulent or to be false as to any material matter shall be fined not more than $10,000 ($50,000 in the case of a corporation), or imprisoned not more than 1 year, or both.

In filing false tax return cases, the Government does not need to prove that it has been deprived of any tax by reason of such filing of the false return; even if it is shown that additional taxes may be due, the person can still be held accountable because they willfully filed a false tax return.

Avoiding Criminal Prosecution By Submitting To Voluntary Disclosure

The Voluntary Disclosure Practice is a longstanding practice of IRS Criminal Investigation of taking timely, accurate, and complete voluntary disclosures into account in deciding whether to recommend to the Department of Justice that a taxpayer be criminally prosecuted.  It enables noncompliant taxpayers to resolve their tax liabilities and minimize their chances of criminal prosecution.  When a taxpayer truthfully, timely, and completely complies with all provisions of the voluntary disclosure practice, the IRS will not recommend criminal prosecution to the Department of Justice. However, if the IRS has initiated a civil examination, regardless of whether it relates to undisclosed foreign accounts or undisclosed foreign entities, the taxpayer will not be eligible to come in under the IRS’s Voluntary Disclosure Practice.

Required Elements Of A Qualified Disclosure

IRS administrative practice recognizes that a taxpayer may still avoid prosecution by voluntarily disclosing a tax violation, provided that there is a qualifying disclosure that is (1) timely and (2) voluntary. A disclosure within the meaning of the practice means a communication that is truthful and complete, and the taxpayer cooperates with IRS personnel in determining the correct tax liability. Cooperation also includes making good faith arrangements to pay the unpaid tax and penalties “to the extent of the taxpayer’s actual ability to pay”.

Timely.

A disclosure is timely if it is received before the IRS has begun an inquiry that is (1) “likely to lead to the taxpayer” and (2) the taxpayer is reasonably thought to be aware” of that inquiry; or the disclosure is received before some triggering or prompting event has occurred (1) that is known by the taxpayer and (2) that triggering event is likely to cause an audit into the taxpayer’s liabilities.

Voluntary.

Voluntari­ness is tested by the following factors: (1) how far the IRS has gone in determin­ing the tax investigation potential of the taxpayer; (2) the extent of the taxpayer’s knowledge or awareness of the Service’s interest; and (3) what part the triggering event played in prompting the disclosure (where the disclosure is prompted by fear of a triggering event, it is not truly a voluntary disclosure).

No voluntary disclosure can be made by a taxpayer if an investigation by the Service has already begun. Therefore, once a taxpayer has been contacted by any Service function (whether it be the Service center, office examiner, revenue agent, or a special agent), the taxpayer cannot make a qualifying voluntary dis­closure under IRS practice.

A voluntary disclosure can be made even if the taxpayer does not know that the Service has selected the return for examination or investigation may be too restrictive. Consequently, if there is no indi­cation that the Service has started an examination or investigation, Tax Counsel may send a letter to the Service stating that tax returns of the taxpayer have been found to be incorrect and that amended returns will be filed as soon as they can be accurately and correctly prepared. This approach has the advantage of putting the taxpayer on record as making a voluntary dis­closure at a time when no known investigation is pending. However, neither the taxpayer nor the lawyer can be completely certain that the volun­tary disclosure will prevent the recommendation of criminal prosecution.

“Quiet Disclosure”.

Where no IRS examination or investigation is pending a taxpayer’s alternative is the preparation and filing of delinquent or amended returns. Such action is called a “Quiet Disclosure”. The advantage of filing delinquent or amended returns without a communication drawing attention to them is that the returns may not even be examined after being received at the Service Center. In such an event, the taxpayer not only will have made a voluntary disclosure but will have avoided an examination as well. The disadvantage is that during the time the returns are being prepared, the taxpayer may be contacted by the Service and a voluntary disclosure prevented. Another disadvantage is that the IRS could use the filed amended income tax returns to constitute an admission that the correct income and tax were willfully not reported and institute criminal prosecution.

What Should You Do?

There is no set formula as to whether a taxpayer should pursue a Voluntary Disclosure or Quiet Disclosure. It really depends on a case by case basis which is why you are best served by consulting with a criminal tax attorney expert in evaluating these matters. Your financial well being, as well as your personal freedom may depend on the right answers. If you or your accountant even suspects that you might be subject to a criminal or civil tax fraud penalty, the experienced tax attorneys of the Law Offices Of Jeffrey B. Kahn, P.C. located in Los Angeles, San Francisco and San Diego and elsewhere in California can determine how to respond to these inquiries and formulate an effective strategy.

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