IRS Clarifies Bitcoin as Property Not a Currency; What are the Implications?

Today the IRS further legitimized bitcoin simply by issuing a ruling bitcoin is property not currency.

In some respects this was the best possible ruling for bitcoin. In other respects it subjects those who intend to use it for everyday transactions to potentially huge bookkeeping requirements.

Please consider I.R.S. Takes a Position on Bitcoin: It’s Property.

The Internal Revenue Service may have just taken some of the fun out of Bitcoin. But that may mean that the virtual currency is growing up.

The I.R.S. announced on Tuesday that it would treat Bitcoin, the computer-driven online money system, as property rather than currency for tax purposes, a move that forces users who have grown accustomed to operating under the government’s radar to deal with new tax issues and reporting requirements.

While that may seem like an expensive headache for some, some financial experts view the move as a way to push Bitcoin further away from the fringes and into the mainstream financial system.

“It’s getting legitimacy, which it didn’t have previously,” said Ajay Vinze, the associate dean at at Arizona State University‘s business school. The ruling, he said, “puts Bitcoin on a track to becoming a true financial asset.”

While many users already treat Bitcoin like a currency, the I.R.S. made it very clear that “it does not have legal tender status in any jurisdiction.”

The industry had been expecting the government to come out with some sort of guidance on Bitcoin, so the announcement on Tuesday did not come as much of a surprise. But some users worry that treating it as an investment could discourage the use of Bitcoin as a payment method. If a user buys a product or service with Bitcoin, for example, the I.R.S. will expect the individual to calculate the change in value from the date the user acquired Bitcoin to the date it was spent. That would give the person a basis to calculate the gains — or losses — on what the I.R.S. is now calling property.

The I.R.S.’s decision would treat Bitcoin as property subject to capital gains taxes. Long-term capital gains taxes are capped at 20 percent, a more favorable rate than the top rate of 39.6 percent on federal income taxes. Individual traders in the currency markets — the British pound, for example — are expected to treat gains or losses as regular income for tax purposes.

“From a tax perspective, this is really the best possible outcome,” said Barry Silbert, the chief executive of SecondMarket, which is planning to introduce a new Bitcoin exchange.

The new guidelines also mean that online exchanges that buy and sell Bitcoin will now have to provide customers with annual reports of their transactions, just as stock brokerages and other investment firms do.

But some efforts may already be underway to ensure that the new reporting requirements will not discourage users from trading with Bitcoin.

“I can assure you that there are a number of companies that have come up with software to automate this entire process,” Mr. Silbert said.

Bitcoin has attracted many of its users precisely because it operated outside the established financial system and offered the promise of cheaper transactions. But many Bitcoin advocates and experts have said that regulation is necessary to make Bitcoin a viable currency.

“The people that feel ideologically that Bitcoin should be free of all regulation aren’t going to be happy,” said Gil Luria, a managing director at Wedbush Securities who has written about virtual currency. “If you’re trying to replace an existing financial system, then you need to have all the features that are required of that financial system.”

The few employers who pay in Bitcoin will have to report those wages just like any other payment made with property, and Bitcoin income will be subject to the normal federal income withholding and payroll taxes, the I.R.S. said.

What are the Implications?

As I have said, Bitcoin is here to stay. Moreover, because of the IRS ruling, bitcoin has tax advantages over currencies.

However, for day-to-day transactions, accounting is potentially a problem. One needs to track gains and losses from both a long-term and short-term perspective on every purchase!

Regardless of the property distinction, I am still willing to bet that I took the correct side in Missing the Boat on Bitcoin Ownership; Theoretical Question Regarding Bitcoin Theft

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com