The Taxation of Cryptocurrencies
Cryptocurrency and blockchain technology have grown in popularity and ubiquity in the past few years. Just within the last year alone, the most well-known and popular type of cryptocurrency, Bitcoin, has grown in value from $6,805.38 to $57,517.80. The Internal Revenue Service defines cryptocurrency as a “type of virtual currency that uses cryptography to secure transactions that are digitally recorded on a distributed ledger such as blockchain.” Virtual currency is a digital asset that is used as a medium of exchange and typically stored electronically in digital wallets. Since the technology, uses, and types of blockchain technology and virtual currency are developing so rapidly and growing in number, regulatory agencies are having a hard time keeping up with the developments and legal implications of these developments. This article focuses on how virtual currency is taxed and the wider implications of virtual currency in federal tax law. This article does not explore the banking, securities, or other legal implications of cryptocurrency.
The Technology of Cryptocurrency
Cryptocurrency relies on blockchain technology. A blockchain is a data management system that stores significant amounts of data. Unlike a typical database that stores information in tables, a blockchain collects and stores information in groups, known as blocks. Blocks have certain storage capacities and when filled are chained onto previous blocks forming a chain of data called a “blockchain.” The blockchain structure provides an irreversible timeline of data when implemented in a decentralized nature. When a block is filled, it is set in stone, and each block in the chain has a precise timestamp that serves as a digital signature to verify each transaction. This system of data collection is particularly useful in the banking and financial services industry since blockchain can track payment rails, which is how money moves among people, businesses, and accounts.
Cryptocurrency has value based on several different factors, similar to securities. Like securities, some factors that give the virtual currency value stem from the image and efficiency of the companies behind them. Additionally, user demand, scarcity, and the coin’s utility all play a role in making a virtual currency valuable.
How is Cryptocurrency Taxed?
Virtual currencies are treated as property and not as currency for federal tax purposes in the United States. This is in stark contrast to how most countries treat virtual currency, which is as standard fiat currency. Under IRS Notice 2014-21, taxpayers must recognize gain or loss on the exchange of virtual currency for cash or for other property. Gain or loss is, thus, recognized and taxable, every time that virtual currency is sold or used to purchase goods or services, including other types of virtual currency. To determine the amount of capital gain or loss, one needs to know the basis of the virtual currency and the fair market value of the virtual currency when sold or otherwise transferred. The nature of gain or loss, and, thus, the rate at which it is taxed, is also determined by how long the virtual currency is held before its disposition. Short-term capital gain is the gain occurring from the sale or exchange of virtual currency when it is held less than one year. Long-term capital gain is the gain that occurs from the sale or exchange of virtual currency when it is held for more than one year. Under the current tax rate structure, long-term capital gains are taxed at a lower, and, thus, more favorable, tax rate.
The fair market value of virtual currency can sometimes be difficult to determine and depends on how the virtual currency is acquired. If virtual currency is acquired through a cryptocurrency trading platform or exchange, the value of the cryptocurrency is the amount that is recorded by the cryptocurrency exchange for that transaction. If the transaction happens “off-chain,” which means the transaction is not recorded on the distributed ledger, then the fair market value is the amount the virtual currency was trading for on the exchange at the date and time the transaction would have been recorded on the ledger if it were an “on-chain” transaction. If the virtual currency is acquired in a peer-to-peer transaction or some other transaction that does not involve an exchange, the fair market value is determined as of the date and time the transaction is recorded on the distributed ledger or would have been recorded on the ledge if it is an “off-chain” transaction.
The basis in the virtual currency is what is paid for it plus any transaction fees incurred in the purchase. Because virtual currency is property and not currency, one must always keep track of basis issues, even when dealing with microtransactions. For example, let us say more than one year ago, Frank paid $15,000 to purchase 1 bitcoin. It cost $14,998 for the bitcoin and $2 for the transaction fee. He bought the bitcoin for investment purposes. His basis in the 1 bitcoin is $15,000. Let us assume that the 1 bitcoin currently trades for $20,000. Using the bitcoin, Frank purchases a slice of pizza for lunch worth $5. He also pays Joe, an independent contractor, $2,000 to build him a fancy new website. For the pizza purchase, all of the following occurs as part of the transaction: Frank uses 0.00025 of the bitcoin to make the pizza purchase leaving him with 0.99975 bitcoin. The amount of bitcoin used to purchase the pizza has $3.75 of allocated basis (0.00025 x $15,000). Since the pizza was worth $5, Frank recognized $1.25 of long-term capital gain that is reportable on his return and is taxable ($5 – $3.75). After the pizza transaction, Frank has 0.99975 bitcoin remaining with a basis of $14,996.25. Regarding the website build: Frank uses 0.1 bitcoin ($2,000/$20,000) that has an allocated basis of $1,500 ($14,996.25/0.99975). He recognizes $500 of long-term capital gain ($2,000 – $1,500). If he purchases the website in the course of a trade or business, he receives a $2,000 deduction. After the website build and the pizza lunch, Frank has 0.89975 bitcoin left with a basis of $13,495.25. Joe, the independent contractor, has 0.1 bitcoin with a basis of $2,000 but also realizes $2,000 of income subject to self-employment tax. If Joe later sells that 0.1 bitcoin, he will need to recognize and report short-term or long-term capital gain or loss depending on how long the bitcoin is held and the fair market value of that bitcoin at the time of the sale.
The IRS Allows Taxpayers to Specifically Identify Units
The simple example of Frank and Joe illustrates how quickly and how complicated reporting virtual currency transactions can become, especially when there are different types of virtual currencies, all with different values, and those “coins” may be acquired at different times, with different holding periods. How is one to calculate the appropriate gain or loss unless one can identify which coin was sold and its basis? Prior to the IRS releasing its FAQs on virtual currency, it was thought that since virtual currency is usually held for investment purposes, like stock, it should be subject to the same basis and accounting rules as stock and as such, unless other specific exceptions are made, the “first in, first out” (FIFO) method should be used in identifying which “coin” is sold or transferred, which determines the gain or loss of the transaction. One of the exceptions to FIFO as it relates to stock is if there can be “adequate identification.” The obvious issue with adequate identification is whether that could ever be applied to virtual currency. With bitcoin, for example, there is no actual “coin”; it is just an entry on a distributed ledger. Fortunately, the IRS did provide guidance in its FAQs that permit taxpayers to choose which units of virtual currency are sold if those units can be “specifically identified.” If the units of virtual currency are not specifically identified, then the first in, first out method is to be used. A taxpayer can use specific identification by documenting the specific unit’s unique digital identifier, such as a private key, public key, and address, or by records showing the transaction information for all units of a specific virtual currency held in a single account, wallet, or address.
The information must show (1) the date and time each unit was acquired, (2) the basis and the fair market value of each unit at the time it was acquired, (3) the date and time each unit was sold, exchanged or otherwise disposed of, and (4) the fair market value of each unit when sold, exchanged, or disposed of, and the amount of money or the value of property received for each unit.
The ability to use specific identification allows a taxpayer to cherry-pick the most advantageous tax treatment and it is further applicable universally across all wallets or virtual currency holdings and not limited to per-wallet application.
Mining Virtual Currency
When people mine virtual currency, they are using computer resources to validate transactions and help maintain and cross-reference the transaction ledger. As part of their effort and use of resources, they earn virtual currency. Pursuant to IRS Notice 2014-21, the mined virtual currency has a fair market value, and is included as gross income, as of the date of receipt. The fair market value of the cryptocurrency is determined as of the date and time the transaction is recorded on the distributed ledger. The income from mined virtual currency may also be subject to self-employment tax.
Hard Forks and Airdrops
A hard fork is when a virtual currency has a protocol change that results in a permanent diversion from the original (legacy) ledger. This can result in the creation of a new virtual currency on a new ledger in addition to the original virtual currency on the original legacy ledger. If a virtual currency goes through a hard fork, but there is no “new” virtual currency, then there is no taxable income. If a taxpayer does receive “new” virtual currency through an airdrop after a hard fork, then it will result in taxable income in the year that the new virtual currency is received. The new virtual currency will have ordinary income equal to the fair market value of the new virtual currency when it is received, which is when the transaction is recorded on the distributed ledger. This can be a huge compliance and reporting issue since a taxpayer may never receive notification of a hard fork or airdrop. When there is new virtual currency after a hard fork with an airdrop, the old virtual currency does not necessarily lose value, but the new currency has an immediate value. While that value may be small, it is a newly acquired amount equal to the fair market value when it was received and recorded and is, thus, reportable and taxable. Depending on the amount and the value when received, that could mean a lot of tax resulting from the receipt of an illiquid asset. A taxpayer in that situation would either need to pay the tax from another source of income or be forced to sell the virtual currency for an ordinary loss or ordinary gain and potentially lose the benefit of capital gain treatment upon its sale.
Received for Services
If a taxpayer receives virtual currency in exchange for services, the income is the fair market value of the virtual currency on the date acquired and is possibly subject to self-employment tax. The basis in the virtual currency is its fair market value. The individual can either immediately sell the virtual currency for short-term gain or loss or choose to pay the tax from other income sources and, thus, hold the virtual currency for longer than one year.
How to Report Virtual Currency Transactions
The IRS is starting to track and enforce taxpayer compliance regarding virtual currency transactions. Even individual 1040 tax returns require taxpayers to answer a yes or no question regarding whether the taxpayer was involved in the transfer of virtual currencies. However, if a taxpayer only purchased virtual currency and had no other virtual currency transactions during the year, a taxpayer is permitted to answer “no.” Capital gains and losses are reported on Form 8949 and on Schedule D of the Form 1040 for individual taxpayers. Ordinary income from virtual currency (as in the case of receiving virtual currency for services or acquiring virtual currency from mining activities or airdrops) is reported on Schedule 1 of Form 1040 for individuals. If the taxpayer holding the virtual currency is a business, then the appropriate business income tax return would need to be filed reporting any virtual currency transactions.
Other Potential Reporting Issues
If a person who is in the course of a trade or business pays an independent contractor $600 or more in a tax year in virtual currency, the payor must report the payment to the IRS on a Form 1099-Misc. The fair market value of the virtual currency, in U.S. dollars as of the date of payment, is required to be reported. Regardless of whether a 1099-Misc is received or not, the payee is required to report that virtual currency. This reporting requirement is also applicable to any payments of fixed and determinable income and may include rent, salaries, wages, premiums, annuities, and other compensation. Companies involved in payment processing must also report virtual currency to their merchant clients.
IRS Enforcement Actions
The IRS has stepped up enforcement action to encourage taxpayers to disclose their virtual currency transactions. Some of these efforts include filing John Doe summons, sending out taxpayer letters, and starting Operation Hidden Treasure, which is a joint initiative of IRS Criminal Investigation and IRS Civil Fraud Enforcement trained in tracking virtual currency transactions.
The IRS has the authority under I.R.C. §7609(f) to gather information through use of “John Doe” summons and may ask a federal court to request information about a group or class of people who share a common attribute, but whose specific identity is unknown so long as there is a reasonable basis for believing that the group or class has failed to comply with any provision of the tax code. The request must be narrowly tailored to information pertaining to persons who have violated internal revenue laws. Furthermore, the information and identities sought must not be readily available from other sources.
In 2018, the IRS filed a John Doe summons against Coinbase for all information relating to all taxpayers that had virtual currency accounts. A judge subsequently limited the reporting to all accounts over $20,000, or about 13,000 Coinbase users. More recently, the Department of Justice Tax Division filed a petition for leave to serve another John Doe summons on Payward Ventures, Inc., also known as “Kraken,” requesting account information for all U.S. taxpayers who held accounts with an equivalent value of $20,000 or more in cryptocurrency for any one year from 2016 through 2020. Another summons was recently issued to Circle Internet Financial. It can be expected that there will be more John Doe summons as more exchanges and virtual currency services open.
There is little doubt that the information received from John Doe summons is used by the IRS to eventually send out letters to taxpayers who may not have disclosed their virtual currency transactions. The IRS will send out a warning letter to a taxpayer it expects did not comply with the filing obligations. IRS form letter number 6173 requires the taxpayer to file an original return or amendment, or otherwise respond to the IRS stating the original position was correct under penalties of perjury. A taxpayer who has failed to include virtual currency transactions on a tax return can file a qualified amended return, which could potentially limit civil penalties or criminal implications. The IRS is also issuing letters 6174, 6174-A, and CP2000 to taxpayers who fail to report or potentially underreport their virtual currency transactions.
Failure to report virtual currency transactions can also have diverse and serious consequences and lead to understatement penalties under I.R.C. §6662. Failure to correctly report virtual currency transactions could also lead to information reporting penalties for virtual currency exchanges under §§6721 and 6722, which each carry a maximum penalty of $3 million per year. The civil fraud penalty, which is equal to 75% of the underpayment of tax under §6663, can also be triggered.
Civil Collections and Criminal Implications
There are also potential criminal repercussions for failure to report virtual currency transactions. When one signs or electronically files a tax return, it is done so under penalty of perjury. Under I.R.C. §7206, a taxpayer who willfully:
makes and subscribes any return, statement, or other document, which contains or is verified by a written declaration that is made under the penalties of perjury, and which he does not believe to be true and correct as to every material matter, shall be guilty of a felony and…..shall be fined not more than $100,000, or imprisoned not more than [three] years, or both, together with the costs of prosecution.
Considering a question on Form 1040 specifically asks if a taxpayer received, sold, sent, exchanged, or otherwise acquired any financial interest in virtual currency, and that the Form 1040 is signed under penalties of perjury, a taxpayer could become subject to this statute if he or she answers “no.” This section is also applicable when a taxpayer omits virtual currency transactions from a return.
The general false statement statute under 18 U.S.C. §1001 is also applicable to individuals who make a false statement or conceal material facts. In the virtual currency context, if a taxpayer makes a false statement to a revenue agent in the process of an audit or examination, or to a revenue officer in a collections matter, they are in violation of this statute.
The §7206 statute is further implicated in IRS collections matters if tax has already been assessed and is owing, and the IRS seeks to collect virtual currency. Collection information statements (Forms 433-A and 433-B) are used by the IRS in collection matters to have taxpayers disclose assets, income, and expenses to determine taxpayers’ collectability and overall ability to pay. They, like the Form 1040 return, are also required to be signed under penalties of perjury. The new version of Form 433-A has a section specifically requesting virtual currency information and requires the type of the virtual currency to be listed, the name of the exchange or wallet that the virtual currency is located, the email address associated with the wallet or exchange, and the amount. Under the statute, a person who removes, deposits, or conceals assets upon which levy is authorized by §6331, with intent to evade or defeat the assessment or collection of tax, is subject to those criminal implications.
Yet, the very nature of virtual currency makes it difficult to levy. While the IRS has an arsenal of tools to use in its collection efforts, it would need to acquire the individual password code from the taxpayer to access the virtual currency. This is vastly different from the IRS being able to directly collect funds from wage levies, bank levies, and other third-party source levies. This type of personal property is difficult to seize, unlike the case of inventory or personal property levies, due to its virtual nature. Furthermore, the virtual currency password cannot be reset. If it is lost or forgotten, there is no “reset password” feature, and the virtual currency is likely lost and unrecoverable. If a taxpayer legitimately loses the password, the taxpayer may not have unlimited guesses and could be locked out forever. In the case of a criminal proceeding or IRS collection matter, a taxpayer could potentially and legitimately lose the password or be lying about it, and it would be very difficult to tell which scenario is the case. Losing virtual currency keys or passwords occurs all the time. The New York Times estimates that about 20% of existing bitcoin (worth about $140 billion) appears to be in lost or stranded wallets. For scenarios involving “lost” virtual currency in collections matters, it would be prudent for an attorney to advise their client to properly disclose the virtual currency on the collection statements and also state that the taxpayer is locked out or has a lost password to disclose the situation.
Attorneys and other practitioners must also be aware of not willfully aiding, assisting, or counseling a taxpayer in the making of a false statement or fraudulent document. Such persons themselves could also become criminally liable under §7206. Additionally, there is the general tax evasion statute that could be triggered for a willful failure to disclose virtual currency transactions or to pay the tax liabilities associated with those transactions. Under I.R.C. §7201, “[a]ny person who willfully attempts to evade or defeat a tax imposed by this title or the payment thereof shall…be guilty of a felony and…shall be fined not more than $100,000 or imprisoned not more than 5 years….”
The rise in users, the decentralized nature of virtual currency, its relative anonymity, and the value of virtual currency has also been accompanied by the potential for fraud and increased criminal activity. We can anticipate the federal government will utilize a multitude of other criminal statutes in connection with virtual currency transactions in the years to come.
Estate and Gift Tax Issues
Virtual currency issues are not only limited to federal income and employment tax; there are also estate and gift tax implications and planning opportunities. The estate tax return (Form 706) requires the reporting of the decedent’s “gross estate,” which is defined as “the value at the time of his death of all property, real or personal, tangible or intangible, wherever situated.” Thus, the value of virtual currency is required to be included in the gross estate and valued at the time of death unless the alternative valuation date is selected. Failure to disclose the virtual currency, if willful, could lead to the same criminal repercussions as discussed above. Understatement penalties could also be applicable.
But virtual currency also presents significant potential planning opportunities. Like donating appreciated stocks, donating appreciated virtual currency could allow a taxpayer to avoid capital gains and potentially obtain a charitable deduction resulting in significant tax savings. A virtual currency charitable remainder trust (CRUT) can also be used in estate planning and provide tax savings.
Virtual currency can also be gifted. While the recipient of the virtual currency does not have income and does not need to report the gift on his or her Form 1040 return, the donor of the virtual currency will be required to file a gift tax return if the fair market value of the virtual currency is over $15,000. Failure to report these transactions can also result in criminal prosecutions. If a taxpayer gifts virtual currency, a taxpayer must also be advised as to any generation-skipping tax issues. There are also reporting requirements when receiving gifts from non-U.S. persons.
Foreign Reporting Issues
It has been somewhat ambiguous whether virtual currency transactions are required to be reported on an FBAR filing (Report of Foreign Bank and Financial Accounts — Form 114), which is administered by the Financial Crimes Enforcement Network (FinCEN), or Form 8938, which is filed with Form 1040. These forms require U.S. taxpayers to disclose foreign bank accounts or assets.
The IRS requires a specified individual or domestic entity to file Form 8938 if there is an interest in a specified foreign financial asset and the value of those assets is more than the applicable reporting threshold. A specified foreign financial asset includes financial accounts maintained by a foreign financial institution or the following foreign financial assets if they are held for investment and not held in an account maintained by a financial institution: 1) stock or securities issued by someone that is not a U.S. person (including stock or securities issued by a person organized under the laws of a U.S. possession), 2) any interest in a foreign entity, and 3) any financial instrument or contract that has an issuer or counterparty that is not a U.S. person. Even though virtual currency is not currency for U.S. tax purposes and is property, could it not be a financial instrument or contract for the purposes of §6038D? Virtual currency and the underlying blockchain technology is often referred to and considered a smart contract. Is it not a type of financial instrument?
Under the current regulations of 31 C.F.R. §1010.350(c), a foreign account holding virtual currency is not reportable on the FBAR, although 31 C.F.R. §1010.350(c)(2) does list “securities account” as a reportable account. Regardless of the current stance on reporting virtual currency on FBARs, virtual currency will soon be required to be reported on FBARs, although it is uncertain when that requirement will begin. On December 30, 2020, FinCEN published a short notice which states:
Currently, the Report of Foreign Bank and Financial Accounts (FBAR) regulations do not define a foreign account holding virtual currency as a type of reportable account. (See 31 C.F.R. 1010.350(c)). For that reason, at this time, a foreign account holding virtual currency is not reportable on the FBAR (unless it is a reportable account under 31 C.F.R. 1010.350 because it holds reportable assets besides virtual currency). However, FinCEN intends to propose to amend the regulations implementing the Bank Secrecy Act (BSA) regarding reports of foreign financial accounts (FBAR) to include virtual currency as a type of reportable account under 31 C.F.R. 1010.350.
The IRS Large Business and International division (LB&I) has announced an additional campaign regarding virtual currency within the areas of withholding and international individual compliance. This campaign and the eventual shift to require the reporting of virtual currency on FBARs and Form 8938 is also due, in part, to the prevalence of foreign virtual currency exchanges blocking U.S. originated accounts. With FinCEN providing notice that this FBAR change is coming and the current caselaw surrounding “willfulness” and FBAR requirements and penalty implications, practitioners should be ready to advise their clients of their filing requirements and the potential penalties associated with nondisclosure of virtual currency transactions.
The penalties for failing to disclose foreign financial accounts on an FBAR can be hefty. A failure to file FBAR penalty can be $10,000 per violation for “non-willful” violations and up to $100,000 or 50% of the balance in the account(s) for “willful” violations. There are also criminal implications for willfully failing to file an FBAR or willfully filing a false FBAR, which potentially carries a prison term of up to 10 years and criminal penalties of up to $500,000.
Due to the rapid development and pervasiveness of virtual currency, Congress has yet to consider a comprehensive regulatory system for this new technology. The Commodity Futures Trading Commission (CFTC), along with other state and federal administrative agencies, such as FinCEN and the SEC, as well as criminal and civil courts, have concurrent regulatory authority in certain settings, but recognize that their jurisdiction is incomplete. Unless or until Congress decides otherwise, for tax purposes, virtual currency is treated as property and not currency. As such, there is a lot to unpack as to the many tax implications of this new type of property and its technology. Given its virtual nature, the sheer amount of types of virtual currency, and the developing and complex technology underlying it, the tax implications, not only from a reporting and a compliance perspective, but planning, examination, collections, and criminal perspectives as well, are staggering and widely unknown. This article is simply a brief survey of some of the further implications of the taxation of cryptocurrencies and is certainly not exhaustive.
 Coindesk, Apr. 5, 2020-Apr. 3, 2021, https://www.coindesk.com/price/bitcoin.
 IRS FAQs on Virtual Currency Transactions, FAQ 3, https://www.irs.gov/individuals/international-taxpayers/frequently-asked-questions-on-virtual-currency-transactions. For the purposes of this article, virtual currency and cryptocurrency are used interchangeably.
 Due to space constraints, this article will not explore possible Florida state tax implications in this article.
 See Anessa A. Santos, What’s the Big Deal About Blockchain, 94 Fla. B. J. 42 (Mar./Apr. 2020), https://www.floridabar.org/the-florida-bar-journal/whats-the-big-deal-about-blockchain/.
 IRS Notice 2014-21, Q-1, available at https://www.irs.gov/pub/irs-drop/n-14-21.pdf. IRS FAQ on Virtual Currency Transactions, FAQ 2, https://www.irs.gov/individuals/international-taxpayers/frequently-asked-questions-on-virtual-currency-transactions.
 See note 4.
 IRS Notice 2014-21, Q-6, see note 5, see also I.R.C. §1001.
 Id. A 1031 exchange cannot be used for virtual currency as it is limited to real property interests. I.R.C. §1031.
 See I.R.C. §1222.
 I.R.C. §1222(1).
 I.R.C. §1222(3).
 I.R.C. §1(h).
 IRS FAQs on Virtual Currency Transactions, FAQ 26.
 IRS FAQs on Virtual Currency Transactions, FAQ 27. “The IRS will accept as evidence of fair market value the value as determined by a cryptocurrency or blockchain explorer that analyzes worldview indices of a cryptocurrency and calculates the value of the cryptocurrency at an exact date and time. If you do not use an explorer value, you must establish that the value you used is an accurate representation of the cryptocurrency’s fair market value.”
 I.R.C. §1012(a); I.R.C. §1016(a)(1); IRS FAQs on Virtual Currency Transactions, FAQ 13.
 See Treas. Reg. §1.1012-1(a).
 An adequate identification is made “if it is shown that certificates representing shares of stock from a lot which was purchased or acquired on a certain date or for a certain price were delivered to the taxpayers’ transferee. Except as otherwise provides…such stock certificates delivered to the transferee constitute the stock sold or transferred by the taxpayer. Thus unless the requirements…are met, the stock sold of transferred is charged to the lot to which the certificates delivered to the transferee belong, whether or not the taxpayer intends, or instructs his broker or other agent, to sell or transfer sock from a lot purchased or acquired on a different date or for a different price.” Treas. Reg. §1.1012-1(c)(2).
 IRS FAQs on Virtual Currency Transactions, FAQs 39, 40, 41.
 IRS FAQs on Virtual Currency Transactions, FAQ 41.
 IRS FAQs on Virtual Currency Transactions, FAQ 40.
 The most advantageous tax treatment depends on whether a taxpayer is trying to minimize gains or maximize the value of a loss. For a fantastic discussion on planning opportunities and differences between FIFO and HIFO (highest in, first out) and how cost-basis tracking can be used universally or per virtual currency wallet, See Shehan Chandrasekera, What Crypto Taxpayers Need to know About FIFO, LIFO, HIFO & Specific ID, Forbes (Sept. 17, 2020), available at https://www.forbes.com/sites/shehanchandrasekera/2020/09/17/what-crypto-taxpayers-need-to-know-about-fifo-lifo-hifo-specific-id/.
 IRS Notice 2014-21, Q-8. Because the virtual currency is mined, it is subject to tax as ordinary income upon receipt. Once obtained, it can then be held and sold subject to capital gains treatment.
 IRS FAQs on Virtual Currency Transactions, FAQ 27.
 IRS Notice 2014-21, Q-9.
 IRS FAQs on Virtual Currency Transactions, FAQ 22. See also Rev. Rul. 2019-24.
 IRS FAQs on Virtual Currency Transactions, FAQs 22, 23. An “airdrop” is a distribution of cryptocurrency to multiple taxpayers’ distributed ledger addresses.
 IRS FAQs on Virtual Currency Transactions, FAQ 24.
 Depending on how early or late in the taxable year the virtual currency is received and sold.
 If the income is paid to a business, there may not be self-employment tax. If the business is a flow-through or disregarded entity, there may be self-employment tax. See also I.R.C. §83, IRS Notice 2014-21, Q-3, Q-4, and Q-10.
 I.R.C. §83, IRS Notice 2014-21, Q-3, Q-4, and Q-10.
 See Form 1040 (2020).
 IRS FAQs on Virtual Currency Transactions, FAQ 5. At the top of IRS Form 1040 it asks: “At any time during 2020, did you receive, sell, send, exchange, or otherwise acquire any financial interest in any virtual currency” and provides a check box for “yes” or “no.”
 IRS FAQs on Virtual Currency Transactions, FAQ 43. See also IRS Form 8949, available at https://www.irs.gov/pub/irs-pdf/f8949.pdf and https://www.irs.gov/pub/irs-pdf/f1040sd.pdf. Schedules C and E may also be used if cryptocurrency was received in the course of business or as income from investment real estate.
 IRS FAQs on Virtual Currency Transactions, FAQs 43, 44.
 The appropriate returns to be filed would depend on how the entity is classified for tax purposes. C Corporations file Form 1120. S Corporations file Form 1120S and distribute K-1s to their owners/members. Partnerships file Form 1065 and distribute K-1s to their partners.
 IRS Notice 2014-21, Q-12, Q-13. See also I.R.C. §6041.
 IRS Notice 2014-21, Q-15. “A third-party settlement organization (TPSO) is required to report payments made to a merchant on a form 1099-K if, for the calendar year, both (1) the number of transactions settled for the merchant exceeds 200, and (2) the gross amount of payments made to the merchant exceeds $20,000.”
 Guinevere Moore, IRS Watch Contributor Group, Operation Hidden Treasure is Here: If You Have Unreported Crypto, Get Legal Advice, Forbes (Mar. 6, 2021), available at https://www.forbes.com/sites/irswatch/2021/03/06/operation-hidden-treasure-is-here-if-you-have-unreported-crypto-its-time-to-get-legal-advice/?sh=30ab1b3239c9. “Operation Hidden Treasure” was announced by Damon Rowe, Director of the Office of Fraud Enforcement for the IRS, at a Federal Bar Association presentation on fraud enforcement priorities at its Virtual Tax Law Conference (Mar. 5, 2021).
 I.R.C. §7609(f).
 See United States v. Powell, 379 U.S. 48, 57-58 (1964). See also Internal Revenue Manual 188.8.131.52 (09-04-2020), Statutory Requirements for a Valid John Doe Summons, available at https://www.irs.gov/irm/part25/irm_25-005-007.
 United States v. Coinbase, Inc. No. 17-cv-01431-JSC (N.D. Cal. Nov. 28, 2017).
 In Re Tax Liability of John Does, Docket No. 21-cv-02201-JCS, (N.D. Cal. Mar. 31, 2021).
 Press Release, U.S. Dept. of Justice, Court Authorizes Service of John Doe Summons Seeking Identities of U.S. Taxpayers Who Have Used Cryptocurrency (Apr. 1, 2021), available at https://www.justice.gov/opa/pr/court-authorizes-service-john-doe-summons-seeking-identities-us-taxpayers-who-have-used-0.
 See IRS Letters 6173, 6174, 6174-A, available at https://www.irs.gov/pub/notices/letter_6173.pdf; https://www.irs.gov/pub/notices/letter_6174.pdf; https://www.irs.gov/pub/notices/letter_6174-a.pdf.
 IRS Letter 6173, see id. The taxpayer is required to disclose that such return or amendment is in response to the letter by writing letter 6173 at the top of the return or amended return.
 Treas. Reg. §1.6664-(c)(3)(i). Of course, taxpayers potentially implicated in a John Doe summons generally do not know that there has been a John Doe summons issued.
 I.R.C. §6662 penalties are at least 20% of the understatement under §6662(a).
 IRS Notice 2014-21, Q-12, Q-13. See also §§6721 and 6722. Under §6721(a)(1), the penalty shall be $250 for each return that contains a failure with a limit of $3 million in a calendar year. For a large credit card merchant, that is a significant penalty. Section 6721 is for a penalty for failure to report the information to the IRS. The §6722 penalty is the companion statute to §6721 for failure to provide a statement to the payee, such as a 1099-Misc or 1099-K. That statute, too, imposes a penalty of $250 for each failure up to a limitation of $3 million. Thus, theoretically, a company can have up to $6 million in penalties for failure to properly report and furnish statements to the payees for the same virtual currency transactions.
 I.R.C. §6333.
 I.R.C. §7206(1).
 18 U.S.C. §1001.
 I.R.C. §7206(3).
 See Form 433-A, available at https://www.irs.gov/pub/irs-pdf/f433a.pdf.
 I.R.C. §7206(3).
 If this happens, I suppose the IRS could summons the exchange or wallet information to see if any transaction has occurred after a statement or form was signed.
 See Nathaniel Popper, Lost Passwords Lock Millionaires Out of Their Bitcoin Fortunes, N.Y. Times, Jan. 12, 2021, available at https://www.nytimes.com/2021/01/12/technology/bitcoin-passwords-wallets-fortunes.html.
 I.R.C. §7206(2). Any person who “[w]illfully airs or assists in, or procures, counsels, or advises the preparation or presentation under, or in connection with any matter arising under, the internal revenue laws, of a return, affidavit, claim, or other document, which is fraudulent or is false as to any material matter, whether or not such falsity or fraud is with the knowledge or consent of the person authorized or required to present such return, affidavit, claim or document….”
 I.R.C. §7201.
 Edgar G. Sanchez, Crypto-Currencies: The 21st Century’s Money Laundering and Tax Havens, 28 U. Fla. J. L. & Pub. Pol’y 167, 169 (2017). “[T]he newest growing concern with Bitcoin, and crypto-currencies in general, are their ability to wash money and conceal taxable income.”
 I.R.C. §2031.
 I.R.C. §2032.
 I.R.C. §6662(b)(5).
 See Ivory Johnson, Here’s a Smart Tax-Planning Strategy for Bitcoin Investors, CNBC (Apr. 7, 2021), available at https://www.cnbc.com/2021/04/07/op-ed-heres-a-smart-tax-planning-strategy-for-bitcoin-investors.html.
 IRS FAQs on Virtual Currency Transactions, FAQs 31.
 Assuming the gift was made in 2021 and the virtual currency of with a fair market value of at least $15,000 was gifted to one person. See also Form 709. If the gift is over $15,000 in a given year, per person, the taxpayer can still utilize the lifetime unified credit and pay no tax, but the return would still need to be filed and the virtual currency transaction reported.
 See IRS Form 3520, available at https://www.irs.gov/forms-pubs/about-form-3520. Taxpayers are required to report the receipt of gifts or bequests from nonresident aliens or foreign estate if such gift or bequest exceeds an aggregate amount of $100,000 during a taxable year and each gift more than $5,000 must be separately identified. As such, each virtual currency transaction with a fair market value over $5,000 must be separately reported if the aggregate value of all gifts (regardless of they are gifts of virtual currency or otherwise) from a nonresident alien or foreign trust exceeds $100,000 in the aggregate in a taxable year.
 The financial Crimes Enforcement Network is a bureau within the Department of the Treasury, like the IRS, but separate from it.
 See IRS, FBAR Reference Guide, available at https://www.irs.gov/pub/irs-utl/irsfbarreferenceguide.pdf.
 See IRS About Form 8938, Statement of Specified Foreign Financial Assets, https://www.irs.gov/forms-pubs/about-form-8938.
 Treas. Reg. §1.6038D-3(a)(1).
 Treas. Reg. §1.6038D-3. See also Instructions for Form 8938, available at https://www.irs.gov/pub/irs-pdf/i8938.pdf.
 While virtual currency may not satisfy the definition of “financial instrument” for tax law purposes (yet), for purposes of the Securities Exchange Commission (SEC), many virtual currencies will likely satisfy the legal definition of “security” and “investment contract.” The term “security” is defined in §2(a)(1) of the Securities Act of 1933, §3(a)(10) of the Securities Exchange Act of 1934, §2(a)(36) of the Investment Company Act of 1940, and §202(a)(18) of the Investment Advisers Act of 1940. The SEC uses the Supreme Court’s “Howey test” to classify emerging financial products as “investment contracts.” SEC v. W.J. Howey Co., 328 U.S. 293 (1946). Under Howey, the inquiry is “whether the scheme involves an investment of money in a common enterprise with profits to come solely from the efforts of others.” The Howey elements looks at 1) an investment of money; 2) an investment in a common enterprise; 3) an expectation of profits from the investment; and 4) profits that are generated solely from the efforts of others.
 31 C.F.R. §1010.350(c)(2).
 FinCEN Notice 2020-2, available at https://www.fincen.gov/sites/default/files/shared/Notice-Virtual%20Currency%20Reporting%20on%20the%20FBAR%20123020.pdf.
 See IRS Announces the Identification and Selection of Five Large Business and International Compliance Campaigns (July 2, 2018), available at https://www.irs.gov/businesses/irs-lbi-compliance-campaigns-july-2-2018; see also IRS has begun sending letters to virtual currency owners advising them to pay back taxes, file amended returns; part of agency’s larger efforts, July 26, 2019, available at https://www.irs.gov/newsroom/irs-has-begun-sending-letters-to-virtual-currency-owners-advising-them-to-pay-back-taxes-file-amended-returns-part-of-agencys-larger-efforts.
 See note 4. A U.S. person does not need to be in the United States to set up a foreign virtual currency wallet or account. One must also consider, in this context, the impact of tax treaties with foreign countries and various information sharing agreements.
 See Kimble v. United States, 991 F.3d 1238 (Mar. 22, 2021), holding taxpayers who sign their tax returns under penalties of perjury “cannot escape the requirements of the law by failing to review their tax returns,” and that the failure to review tax returns, which would have directed the taxpayer to file an FBAR, is enough to show willfulness.
 31 U.S.C. §5321(a)(5). This is in addition to a potential 75% fraud penalty under I.R.C. §6663. Willfulness is a “voluntary violation of a known legal duty.” United States v. Sturman, 951 F.2d 1466 (6th Cir. 1991).
 31 U.S.C. §5322. The FBAR statute of limitation on assessment is six years. 31 U.S.C. §5321(b)(1).
 This author insinuates no normative judgment as to that fact.
 See CFTC v. McDonnell, 287 F. Supp. 3d 213, 220 (E.D.N.Y. Mar. 6, 2018).
This column is submitted on behalf of the Tax Section, Harris L. Bonnette, chair, and Taso Milonas, Charlotte A. Erdmann, Michael A. Lampert, Daniel W. Hudson, and Angie Miller, editors.