Bitcoin and other cryptocurrencies have no intrinsic value other than their ability to deliver anonymity and security to their users. These features appear to be worth quite a bit given the explosion in commodity value of the currently traded currencies and the plethora of new cryptocurrency launches (called ICO’s). While many experts generally view the frenzy with a mixture of amusement and alarm, noting that cryptocurrency markets are demonstrating bubble behavior, exuberant enthusiasm may not be the biggest issue that Bitcoin and its brethren ultimately face. It is their tenuous intrinsic value that is under attack. This is because the anonymity of cryptocurrencies will likely fall to the inexorable legal machinery of the IRS.
The IRS is already picking its way through the legal landscape, attempting to subpoena customer and transactional data from U.S.-based cryptocurrency exchanges. The IRS wants third-party reporting from exchanges, and if it cannot get it, it wants the underlying data itself. The IRS’ argument? Cryptocurrency exchanges are no different than regular banking institutions or credit card companies. They have to file Forms 1099-K or 1099-MISC like anyone else.
It turns out to no one’s surprise that one of the most appealing features of currency anonymity is not necessarily the ability to conduct illicit commerce, rather, it is the ability to avoid taxes. And given that cryptocurrencies are expected to conduct $1 trillion (trillion!) in transactions during 2017, this is getting to be a big tax liability for governments worldwide and the U.S. government itself.
For those of you that think that this is some evil plot by the IRS, grow up. The U.S. Congress is keenly interested in raising revenue to pay for the national debt and trillions of entitlement and operational public spending. It is their laws that drive the IRS’ regulatory zeal. And who votes for Congress? The people–all of whom have vested interests in the sectors of the government that serve their particular needs. Those needs cost money, and it comes from taxes.
U.S. states are already dealing with tax base shrinkage afforded by Internet technology-driven commerce. Nationally based online-only companies avoided paying sales taxes for years by arguing a lack of nexus in the taxing state. States attempted to pass laws to close the nexus loophole–only to be slapped down by Congress and the courts. Now the shoe is on the other foot with Congress facing tax base shrinkage through the use of anonymous non-fiat currencies.
The message that needs to be sent to holders of cryptocurrencies? This tax situation is going to be fixed, whether through IRS litigation or the passage of new law. And when that happens, the three-legged stool that cryptocurrencies stand on for the inflated values at which they trade will find itself short of one of those legs.