Over the past few years, the Internal Revenue Service (IRS) has significantly expanded its surveillance of cryptocurrency investors and transactions. This evolution has transformed the agency’s approach from targeting individual traders to employing a broader, more comprehensive strategy aimed at uncovering tax non-compliance across the digital asset landscape.
Since 2017, the IRS has utilized tools such as “John Doe summonses” and advanced blockchain analytics to conduct its investigations. These methods allow the agency to trace transactions on a real-time basis, raising the stakes for investors who may be unaware of their tax obligations. David Klasing, a tax attorney and CPA specializing in crypto taxation, noted that initial efforts focused on a select group of individuals based on specific transaction thresholds. Nevertheless, these tactics have since expanded to encompass users across multiple exchanges.
The IRS’s crackdown has not been an isolated event. Major cryptocurrency exchanges, including Coinbase, Kraken, Poloniex, and Circle, have all faced scrutiny under this broadened enforcement framework. For instance, Coinbase was initially summoned for records related to 14,000 accounts in 2016. Though the scope was narrowed through legal challenges, it marked the beginning of stronger IRS interest in crypto transactions. By fiscal year 2021, around $3.5 billion in crypto assets were seized, constituting a staggering 93% of the IRS’s total asset seizures for that year, as reported by the agency’s Criminal Investigation Division.
In 2021, the agency sought similar John Doe summonses for Kraken users who transacted over $20,000 from 2017 to 2020, as well as for customers of Circle and Poloniex during similar timeframes. By mid-2023, the IRS had initiated over 216 examinations and issued nearly 15,000 “soft letters” to crypto users based on data from exchanges, as reported by the Treasury Inspector General for Tax Administration (TIGTA).
Legal thresholds must be met for John Doe summonses to receive court approval. This includes demonstrating an “ascertainable group” and presenting a reasonable basis for suspecting tax non-compliance. However, Klasing explained that the courts require only minimal justification to grant these summonses, often allowing for broad targeting. Critics, including privacy advocates and cryptocurrency enthusiasts, have expressed concerns about the implications of such surveillance, likening the situation to a “financial ankle monitor” that facilitates overwhelming awareness of users’ transactions.
Crypto platforms are now facing increased compliance pressure, leading to what some experts describe as a turning point in crypto tax enforcement. Nick Waytula, head of tax at Crypto Tax Calculator, emphasized that this expanded use of tracking mechanisms raises the compliance expectations for firms exponentially. In fact, the IRS has introduced a new reporting regime, known as the 1099-DA, set to take effect in 2025 that will require gross proceeds reporting and basis reporting for certain transactions, further ensuring accountability.
Despite these developments intended to clarify tax reporting and reduce historical inaccuracies, challenges remain. For instance, the 1099-DA forms that exchanges will provide may not include information from other exchanges or wallets, potentially leading to confusion and mismatches that could complicate compliance further.
Adding to the complexities, numerous clients of tax firms have reported receiving IRS notices regarding “massive misreporting” by popular exchanges, particularly during the boom years of 2017-2019. Traditional reporting mechanisms, including the 1099-K forms, have been criticized for providing only aggregate data without necessary context, often leaving both taxpayers and the IRS confused.
The IRS’s approach highlights an increasing emphasis on oversight for cryptocurrency platforms and demands for improved reporting and compliance protocols. Dmitri Alexeev, a CPA and Tax Partner at Aprio, remarked that recent developments indicate a sustained focus on regulatory compliance within the crypto sector, urging firms to maintain robust internal controls and data collection systems.
On a more contentious note, the Supreme Court recently declined to hear a case that could have significant ramifications for how crypto transactions are surveilled. Privacy advocates, including Coinbase, supported the claim that IRS access to trading data infringes on Fourth Amendment rights. The brief submitted by Coinbase articulated concerns that ensuring user privacy is critical, especially as digital currencies become more widely adopted.
As the regulatory landscape evolves, platforms are faced with the dual challenges of heightened scrutiny from agencies like the IRS and the need to retain user trust within an increasingly skeptical community. Waytula cautioned that aggressive enforcement tactics may alienate compliant users and could lead to friction with taxpayers who prioritize decentralization and privacy.
In summary, the IRS’s expanded surveillance strategies reflect a broader trend toward increased regulatory oversight of digital assets. As the landscape continues to shift, stakeholders must navigate complex compliance requirements while advocating for greater clarity around regulatory expectations. By improving transparency and reporting accuracy, both cryptocurrency platforms and users can work toward a more stable and compliant ecosystem in the ever-evolving world of digital finance.
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