The IRS has mailed letters to more than 10,000 taxpayers who may have owned or currently own cryptocurrency. The letters are a result of the IRS' attempt to capture untaxed cryptocurrency by educating taxpayers about the tax filing requirements for reporting virtual currency transactions.
Additionally, the letters serve to provide taxpayers with information regarding correcting their tax returns. In 2014, the IRS issued a notice that provided taxpayers with guidance on virtual currency transactions taxation in the United States. The Notice explained that cryptocurrency is treated as property, rather than currency, as it is not considered legal tender in any country.
When a taxpayer converts USD into cryptocurrency, this is considered a non-taxable event, with the cryptocurrency considered property upon conversion. Therefore, the IRS' concern is aimed at what happens after the funds are converted into cryptocurrency. Generally, when the taxpayer converts the cryptocurrency (considered property) back into USD, the sale should be treated as either a short- or long-term capital gain or loss. However, if the taxpayer is a professional cryptocurrency trader, the gain on the sale of the property would be considered ordinary business income.
Much of the confusion arises relating to the use of cryptocurrency to purchase another form of property, such as using cryptocurrency to purchase goods via online shopping. To determine the gain, the taxpayer would treat the transaction as if the cryptocurrency had been converted back into cash, with the resulting gain or loss treated as either a short- or long-term capital gain.
With these letters, the IRS is hoping to continue the education process of taxpayers regarding their cryptocurrency transactions so taxpayers will properly report the resulting gains or losses from these transactions.