I am excited to report, on March 19, 2018, the Section of Taxation issued comments to the IRS, which in my opinion is a landmark analysis of the tax issues related to Bitcoin cash forks. The letter includes a recommendation for "safe harbor treatment" (warning: this is not official tax law as of April 16, 2018).
Crypto Tax Analysis in Brief
In August of 2017, I released an article discussing potential tax consequences of the Bitcoin Cash hard fork (absent any real guidance), including a potential "Scenario D":
Scenario D - Another risky scenario as no gain is recognized. Recognize no gain on the receipt of Bitcoin Cash, and establish a zero basis, so that the future sale is a taxable gain equal to the net proceeds.
As discussed below, the reputable Section of Taxation's thoughtful analysis and recommendation to the IRS appears to have similar features as Scenario D. The recommendation is for a "safe harbor" treatment which will treat the fair value of forked coins as $0 on the date of the fork (this presumably defers income tax to when the forked coins are sold/exchanged in the future or when the IRS issues more guidance in the future).
Section of Taxation Recommendation
Disclaimer (from letter): The following comments (“Comments”) are submitted on behalf of the American Bar Association Section of Taxation (the “Section”) and have not been approved by the House of Delegates or Board of Governors of the American Bar Association. Accordingly, they should not be construed as representing the position of the American Bar Association. [Note: Read full disclaimer here: https://www.americanbar.org/content/dam/aba/administrative/taxation/policy/031918comments2.authcheckdam.pdf]
On March 19, 2018, the Section of Taxation recommended to the IRS to issue a safe harbor:
WARNING - THIS IS NOT OFFICIAL IRS GUIDANCE - THIS IS NOT TAX LAW - DO NOT RELY ON THIS IN FILING YOUR RETURN
- Taxpayers who owned a coin that was subject to a Hard Fork in 2017 would be treated as having realized the forked coin resulting from the Hard Fork in a taxable event.
- The deemed value of the forked coin at the time of the realization event would be zero, which would also be the taxpayer’s basis in the forked coin.
- The holding period in the forked coin would start on the day of the Hard Fork.
- Taxpayers choosing the safe harbor treatment as set forth in the guidance would be required to disclose this on their tax returns.
- The Service would not assert that any taxpayer who availed themselves of the safe harbor treatment as set forth in the guidance has understated federal tax liability because of the receipt of a forked coin in a 2017 Hard Fork.
- The Service, with input from the Section and other stakeholders, will continue to develop its position regarding the tax treatment for future Hard Forks, and such position may be different from the one noted above and will apply prospectively.
WARNING - THE ABOVE IS NOT OFFICIAL TAX LAW - DO NOT RELY ON THE ABOVE IN FILING YOUR RETURN
The Section of Taxation Analysis
Income Realization
The analysis discusses the uncertainty in the proper treatment, including discussing the economic benefit analysis available under Commissioner v. Glenshaw Glass. In October of 2017, I issued an article discussing uncertainty regarding the tax treatment of the Bitcoin gold fork. In particular, I discussed that the Supreme Court ruled determined gross income includes any undeniable accession to wealth.
The accession to wealth must be clearly realized and an economic benefit.
https://steemit.com/money/@cryptotax/is-bitcoin-gold-is-taxable-in-the-u-s
Fair Value and Coinbase considerations
The analysis discusses that it could be viewed the fair market value is $0 on the date of a fork for investors that have control of their private keys; however, the fair market value might be different for user holding Coins on an exchange (Coinbase etc.). The analysis also discusses timing of realization of income is tricky. One point of view is Coinbase holders did not have control of their BCH on August 1st and thus shouldn't be "realized" on 8/1. On the other hand, the decision of keeping crypto on an exchange is voluntary and thus should be realized on 8/1 (see constructive receipt doctrine). This is similar to the discussion I laid out in August of 2017:
• Scenario E - Coinbase and other non-immediately available BCH - Assess implications when the forked Bitcoin Cash became (or becomes) available to convert to USD. The IRS has a concept known as the constructive receipt of income; effectively, income is not received until it is available to draw on and has been set aside to be used any time. On August 1, 2017 Coinbase users did not have access immediately to withdraw the Bitcoin Cash, as Coinbase initially decided not to support BCH. Now, BCH transactions through Coinbase will be supported starting on January 1, 2018, however BCH balances cannot be viewed or accessed. The Coinbase user would have to decide whether to follow A, B, C or D, potentially using January 1, 2018 instead of August 1, 2017 as a date of reference. Unfortunately, even applying constructive receipt as an exception from using August 1st as a date of reference is risky, as the "future right" to receive BCH existed on August 1.
The analysis also discusses similar situations where the IRS issued safe harbors for valuation rules, citing some familiar references to profit interest unit valuation for partnerships.
Non-realization Potential
The analysis lays out that prorata stock dividends are not considered income per the Supreme Court Case Eisner v. Macomber, as an anology to the Bitcoin forks. I also addressed this analogy in my blog post:
• Scenario B - No gain - basis 50/50: Same as scenario A above, this is another risky scenario. The only difference is basis split between the two BTC/BCH. For basis tracking instead allocate basis 50% to BTC and 50% to BCH. This would be equivalent to a 2 for 1 stock split when a public company doubles its share count. In a stock split, the $1,000 of basis in 1 share would be allocated 50/50 to the 2 shares ($500 each). Under a similar treatment for BTC/BCH, $500 of basis would be allocated to BTC and $500 would be allocated to BCH.
Important points I hadn't yet addressed
Further, the analysis lays out some interesting points for "non-realization of income" - this is the part of my analysis I never got around to diving into: birth of livestock, extraction of minerals, joint tenancy, partition of property, etc.
The birth of pregnant livestock is generally not a taxable event - this analogy fascinates me and I am excited to read the court cases/ruling cited in the analysis.
Takeway
I think the Section of Taxation analysis is fantastic and I applaud their work. It is clear a great level of detail and thoughtful analysis was put into this recommendation. I am very appreciative that they addressed this issue, even though there are so many hot topics right now in the field of income tax, due to the last-minute Tax Cuts and Jobs Act (U.S. tax reform) on December 22, 2017. U.S. tax reform has been quite the burden on the accounting and legal community in recent months from the perspective of interpretation and implementation.
Not that my opinion should in any way be equivalent to or outweigh the brilliant minds that assembled the March 19th comments, however to be clear, I 100% endorse the recommended safe harbor (warning: this is not official tax law as of April 16, 2018) - and I hope the IRS will consider issuing official guidance in the future with a similar safe harbor.
Source
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Disclaimer: This series contains general discussion of U.S. taxes in a developing and unclear area of tax law. As always, you should consult your own tax advisor in your jurisdiction to determine your specific situation as this is not personal advice; and consider any future guidance by the Congress/IRS after the date of this article. Under Circular 230 to the extent it applies, this article cannot be used or relied on to avoid any tax or penalties in the U.S., its States or any other jurisdictions. This post does not create a client relationship between the author and the reader.
Disclaimer: I have no association with the American Bar or Section of Taxation. The words used in this article are entirely my unofficial interpretation of the document provided at the following weblink: https://www.americanbar.org/content/dam/aba/administrative/taxation/policy/031918comments2.authcheckdam.pdf"