How Is Bitcoin Taxed? The IRS Doesn't Know

Flickr user antanacoins

Absent any guidelines, investors in the virtual currency will have to muddle through tax season.

How do you tax bitcoins? Apparently, not even the IRS knows.

Internet forums like Reddit and are exploding with questions about how users of the increasingly popular virtual currency should fill out their tax forms this year.

"Some of us have sold some for fiat [money]. Some of us want to pay taxes on that but don't know how," wrote one user.

"If they want us to pay our taxes they should tell us how so I can get an accountant!" said another.

The Taxpayer Advocate Service, which is an independent office within the IRS, pointed to those types of Internet comments and the advice they garnered from purported experts in a 2013 report to Congress. "Some of this speculation is incorrect, incomplete, or misleading," the report said. "It is the government's responsibility to inform taxpayers about the rules they are required to follow."

The heart of the issue is whether the IRS will view bitcoins as a currency or a commodity.

But the government remains mum: "The IRS is aware of the potential tax-compliance risks posed by virtual currencies," the agency said in an emailed statement. "The IRS continues to study virtual currencies and intends to provide some guidance on the tax consequences of virtual-currency transactions."

They'd better study quickly. Bitcoin usage increased by more than 75 percent between July and December 2013 as the market value of bitcoins in circulation climbed to $12.6 billion from $1.1 billion. The climbing price has attracted investors and led businesses in the United States, including online discount retailer, to say they will accept the digital payment.

Bitcoin supporters don't understand why the IRS is waiting to weigh in. "It shouldn't be as magical as they're making it," said Daniel Morris, senior partner at Morris + D'Angelo, a Silicon Valley-based CPA firm. He said bitcoins should be treated like any other nondollar denominated transaction in tax filings.

For now, so long as bitcoin users make some attempt to pay the government what they think they owe, they probably—maybe—won't get in trouble.

"If you made a best effort, added and documented your process, that if the IRS were to question it, it most likely would be allowable," said Janet Lee Krochman, a CPA in Southern California who bought her 21- and 22-year-old sons a bitcoin each for Christmas this year to familiarize them with the world of investing.

She said she will recommend that they report any gains as capital on their tax returns.

This article appears in the January 27, 2014, edition of NJ Daily.