Why are Bitcoin Going Mainstream & How Do You Deal with the Reporting and Taxing?

October 20, 2014 by Ed Becker

Why are Bitcoin Going Mainstream & How Do You Deal with the Reporting and Taxing?

Bitcoin has gone mainstream because it has become a very popular form of digital currency that is relatively cheap to use and is extremely safe for users. There are no chargebacks and there is no way for a merchant or credit card company to double charge your account. What was just a geek driven currency now has over 5 million holders of the digital currency and over 100,000 merchants who are willing to accept payments in Bitcoin. The number of merchants jumping on the bandwagon is growing by nearly 1,000 per month. Even Google checkout is allowing Bitcoin transactions to be processed. It is a draw for people who want more privacy, per se, and safer digital online transactions. Another reason for mainstream is that it is global, you can trade or use Bitcoin with anyone in the world, but it is still valued in USD fair market value for reporting purposes.

Clients are now questioning their accountants about how to record and track Bitcoins

As of the 2013 tax filing season, Bitcoin had become relevant enough for clients to beg the questions of how to report, file and pay taxes on this new digital currency. The federal government has finally offered the first set of guidelines based on the popularity of Bitcoin. They stated that as of March 2014, they consider Bitcoin a property and not a currency; anyone profiting from Bitcoin is required to report it to the government, similar to a capital gains report; if you purchased a Bitcoin for $5 and sold it for $20, you would report it as a capital gain of $15. Depending on how long the Bitcoin was held and overall income, the tax rate on capital gains is nearly 40%. But they are also treated as stock gain and only taxed once it is cashed in.

It seems that most accountants have and are treating Bitcoin as capital gains income, but others are arguing that it should be treated as foreign currency. Basically, the bottom line is that if you are doing more than just meddling in Bitcoin it needs to be reported somehow in order to cover yourself later. If you have $15k in Bitcoin and you do not report it in some way, it could really hurt you in the long run with the IRS.

How will it affect your bookkeeping and taxes if you use virtual currency?

According to the IRS guidelines, choosing whether to recognize Bitcoin as virtual currency or as property depends on what your activities are, what your income from other sources is, and whether or not you realized capital gains.
As stated above, some accountants have been recording Bitcoin as foreign currency and some as property with possible capital gains and taxes based on gain. The IRS is going to have to be more clear on exactly how they are going to treat Bitcoin, rather than just making suggestions. Recordkeeping of Bitcoin as property with capital gains is a tough thing to assess as calculating cost base is very challenging. Market value can fluctuate some days up to between exchanges up to 100%.

How does the fluctuating value effect your accounting/bookkeeping?

Another variable is how your transaction history is recorded, i.e. if you used exchanges or if you are simply bartering with local businesses and calculated fair marketing value yourself. According to the IRS, taxpayers only have to report fair market value on the date the currency was received. If you are establishing your own fair market value, it has to be consistently applied, not random or based on what will under or overstate the values day by day.

So your recorded value for accounting purposes is stated by fair market valuation on the date received. That fair market value that a person states would then serve to be the fair market value of the person who trades or barters for that currency. But there is no way to track or report this from transaction to transaction.

How do you pay your Bitcoin taxes?

Your tax payments are going to hinge on what the IRS decides in the future and how you are choosing to report your Bitcoin transactions. At this point the guidelines state that Bitcoin is property. That could easily change and most likely there will be more input and formal procedures established as Bitcoin become more widely used.

If you are simply holding an account of Bitcoin and not cashing it in or bartering with them you will not have any tax liability at this point. That very well could also change if the rulings come down that it is to be treated as currency not property.

How does IRS Notice 2014-21 effect the whole scheme of Bitcoin?

• “The notice referenced above is not a new law but an interpretation of existing law, so there’s significant uncertainty. At least one bill is before Congress to change the tax treatment of Bitcoin.
• New accounting tools support the recording, reporting and accounting of Bitcoin. For example, LibraTax is a SaaS platform designed for this.
• A taxpayer who receives virtual currency as payment for goods or services must, in computing gross income, include the fair market value of the virtual currency, measured in U.S. dollars, as of the date that the virtual currency was received. Fair market value is determined by the publicly available rates on the exchanges, consistently applied (IRS Notice 2014-21).
• The fair market value of virtual currency paid as wages is subject to federal income tax withholding (IRS Notice 2014-21). New platforms like Bitpay and Wagepoint are offering payroll services in Bitcoin.
• The character of the gain or loss generally depends on whether the virtual currency is a capital asset in the hands of the taxpayer.”
• The IRS refers to Bitcoin as convertible virtual currency because it has an equivalent value in real currency or can be substituted for real currency. It can be purchased for or exchanged into U.S. dollars, euros and other real or virtual currencies. AccountingWEB 

The Digital Currency Council was launched in September and had an overwhelming response, with a membership of 400 by early October. They are seeing that Bitcoin is going mainstream with over 5 million holders currently and more than 100,000 merchants involved and growing by at least 1,000 per month. It seems that for now Bitcoin is here to stay and the IRS is going to be forced to reevaluate the treatment and taxation of Bitcoin. Many accountants are now learning and taking courses to better understand and deal with Bitcoin use as a currency, even if the IRS does not see it that way yet.

It seems that the growth of Bitcoin is going to continue for quite a while. Many users like the autonomy of its use, many like that it is not governed by any specific entity, but is an open source that anyone can access. The low or total lack of transaction or usage fees is definitely a huge draw for those who are tired of paying extraordinary amounts to checkouts or credit card companies. If you are already using Bitcoin, you will want to ensure that you are reporting values and gains consistently. If you have not used digital currency yet, it may be a good time to learn more about it.