The use of virtual currencies has become more and more widespread in recent years, especially in the Silicon Valley area. Many people and businesses invest in and trade cryptocurrencies and use them to make purchases or pay employees. As financial activity in this area continues to increase, the IRS has taken note, and it is taking steps to make sure taxpayers properly report these transactions and pay applicable taxes on the income they earn and the gains of their investments. Some recent developments have shown that those who own virtual currencies will want to make sure they are meeting the requirements under the tax laws.

IRS Clarifies Reporting Requirements for Virtual Currency

Those who have begun to file their tax returns for 2020 may have noticed that a new question has been added to Form 1040 asking “At any time during 2020, did you receive, sell, send, exchange, or otherwise acquire any financial interest in any virtual currency?” This indicates that the IRS will be monitoring these transactions and taking action to collect taxes that are owed. However, taxpayers have faced some uncertainty about exactly what types of transactions need to be reported. Recently, the IRS offered some clarification by stating that those who purchased cryptocurrencies using “real” currencies do not need to answer “yes” to this question. 

For other types of transactions, virtual currencies are treated as property. When selling or exchanging cryptocurrencies, a taxpayer will need to recognize any capital gains or losses based on their basis in the cryptocurrency (the amount paid to acquire it, including fees or commissions) and the amount they received in exchange for the virtual currency. Those who receive cryptocurrency as wages or as payment for services must treat the virtual currency as income based on its fair market value at the time it was received.

Compliance with tax laws is a requirement for people and businesses in the United States, but some taxpayers may struggle to pay the taxes they owe. A person who has unpaid taxes may worry that they will be subject to collection actions by the Internal Revenue Service (IRS) such as wage garnishment or tax liens. Currently, this is a major concern for those who have experienced financial difficulties due to the COVID-19 pandemic. As part of its ongoing efforts to address these issues, the IRS has given taxpayers more options for paying the taxes they owe through installment agreements.

Installment Agreements Under the Taxpayer Relief Initiative

Taxpayers with outstanding tax liabilities have the option to pay off the amount they owe over time by making regular payments to the IRS. To qualify for an installment agreement, a taxpayer will need to have filed all required tax returns and tax forms. To address the financial issues that many people have experienced due to the COVID-19 crisis, the IRS has created a Taxpayer Relief Initiative that has expanded people’s ability to use installment agreements. The changes made under this program include:

• While installment agreements had previously been available to individual taxpayers who owed up to $50,000 in taxes, penalties, and interest, this option is now available for certain individual taxpayers who owe up to $250,000. These taxpayers may be able to set up installment agreements without the requirement to provide financial statements verifying their monthly income and without the need for the IRS to file a federal tax lien.
• The time limit for paying off tax debts through short-term installment agreement plans has been increased from 120 days to 180 days.
• For taxpayers who have existing installment agreements, the IRS will automatically add certain types of taxes owed in subsequent tax years to their balance rather than causing them to default on their agreement.
• Taxpayers who use direct debit to make payments in an installment agreement can use the IRS’s Online Payment Agreement system to request changes to their agreement, such as lowering the amount of their payments or changing the payment due dates.

The Taxpayer Relief Initiative also provides several other options for those who owe taxes. In some cases, taxpayers may request that the IRS delay collection of taxes until their financial situation improves. Taxpayers may also be able to negotiate offers in compromise with the IRS to pay taxes owed, or they may qualify for penalty abatement relief if they can show reasonable cause for failure to file tax returns or failure to pay taxes.

U.S. taxpayers are required to comply with a wide variety of tax laws, but understanding these complex requirements can sometimes be difficult, especially for those who own international assets or earn income from foreign sources. Taxpayers may be required to file multiple different types of forms related to foreign assets, accounts, and income, and those who have not met their foreign investment reporting requirements may be concerned about the possibility that they may face a tax audit and be subject to penalties. Fortunately, the IRS has provided procedures that taxpayers can follow to file delinquent international tax returns.

DIIRS Procedures

The IRS encourages taxpayers to voluntarily comply with its requirements for reporting foreign income and assets and paying any delinquent taxes that are owed. In some cases, taxpayers may be able to participate in the Streamlined Compliance program and use the Streamlined Domestic Offshore Procedures (SDOP) or Streamlined Foreign Offshore Procedures (SFOP) to disclose any unreported foreign assets or income and pay taxes that are owed. Depending on whether a person qualifies for the domestic or foreign procedures, they may also be assessed a penalty.

For those who do not need to use the streamlined compliance procedures to become compliant with their requirements, the IRS offers another program known as the Delinquent International Information Return Submission (DIIRS) Procedures. Taxpayers may qualify for this program if they have not filed one or more international information returns, they are not facing a civil examination or criminal investigation by the IRS, and they have not already been contacted by the IRS about the delinquent forms.

Those who live in the United States may choose to leave the country and live elsewhere, but if this will be a permanent change, they should be aware that they may face certain tax consequences. Expatriation occurs when a U.S. citizen chooses to relinquish their citizenship. Expatriation will also apply to a lawful permanent resident who holds a “Green Card” if their immigration status is revoked or abandoned or if they notify the IRS that they will be commencing residence in a country that has a tax treaty with the United States. Expatriates may be required to pay an exit tax, and they will want to understand how the tax laws will apply to their situation.

Who Is Subject to the Exit Tax?

The exit tax (also known as the expatriation tax) is a form of income tax that applies to the potential gains a person would earn by selling or disposing of the assets they own. While capital gains taxes typically apply to the profits a person earns when selling assets, a taxpayer may not actually realize these gains until years or decades after they leave the United States. Exit taxes ensure that the IRS can apply the proper taxes to the gains a person earned while they resided in the United States.

The exit tax will only apply if a taxpayer meets the qualifying criteria to be a “covered expatriate.” Three tests are used to determine whether a person is a covered expatriate:

Major financial transactions can have a variety of tax consequences, but taxpayers may be able to make use of tax laws and regulations to minimize the taxes they will be required to pay. Real estate transactions will often result in capital gains taxes being applied to the profits earned, but in some cases, a taxpayer may be able to use a “like-kind exchange” to defer the taxes owed. However, the Tax Cuts and Jobs Act (TCJA) of 2017 made some changes to the types of property that can be included in these exchanges, and the IRS recently issued new rules that will apply in these cases.

What Is a Like-Kind Exchange?

Section 1031 of the Internal Revenue Code allows taxpayers to defer capital gains taxes when selling certain types of property if the proceeds from the sale are reinvested into replacement property. The replacement property must be of a “like-kind” to the original property, meaning that it is property of the same type. Typically, business or investment property can be exchanged for other business or investment property.

Updated Rules for Section 1031 Exchanges

The TCJA restricted like-kind exchanges to real property used for business or investment purposes. It also eliminated certain types of personal or intangible property from being considered in these exchanges, including equipment and machinery, artwork and collectibles, vehicles, and patents or other intellectual property.