On Aug. 15, 2022, a federal court in the Central District of California entered an order authorizing the IRS to serve a John Doe summons on SFOX, a cryptocurrency prime dealer headquartered in Los Angeles, California, seeking information about U.S. taxpayers who conducted at least the equivalent of $20,000 in transactions in cryptocurrency between 2016 and 2021 with or through SFOX. 'Taxpayers who transact with cryptocurrency should understand that income and gains from cryptocurrency transactions are taxable,' said Deputy Assistant Attorney General David A. Hubbert of the Justice Department’s Tax Division. 'The information sought by the summons approved today will help to ensure that cryptocurrency owners are following the tax laws.
[Department of Justice. Court Authorizes Service of John Doe Summons Seeking the Identities of U.S. Taxpayers Who Have Used Cryptocurrency. (Accessed August 17, 2022)].
"In court filings in New York and Los Angeles, the tax authority asked federal judges to let it serve summonses on SFOX and M.Y. Safra Bank, which partnered with SFOX in 2019 to offer its customers cash deposit accounts backed by the Federal Deposit Insurance Corporation" [Van Voris, B. IRS Seeks SFOX Customer Information in Cryptocurrency Tax Push. (Accessed August 17, 2022)]. "Transactions in cryptocurrency have grown substantially in recent years, and the IRS is concerned that taxpayers are not properly reporting these transactions on their tax returns', a lawyer for the government said in court papers filed [...] in Los Angeles" [Id].
Because transactions in cryptocurrencies can be difficult to trace and have an inherently pseudo-anonymous aspect, taxpayers may be using them to hide taxable income from the IRS. In the court’s order, United States District Court Judge Otis D. Wright found that there is a reasonable basis for believing that individuals conducting at least $20,000 in cryptocurrency transactions may have failed to comply with federal tax laws. The court’s order grants the IRS permission to serve what is known as a “John Doe” summons on SFOX. There is no allegation in this suit that SFOX has engaged in any wrongdoing in connection with its digital currency business. Rather, the IRS uses John Doe summonses to obtain information about possible violations of internal revenue laws by individuals whose identities are unknown. This John Doe summons directs SFOX to produce records identifying U.S. taxpayers who have used its services, along with other documents relating to their cryptocurrency transactions.
[Department of Justice, supra].
"In a statement, IRS Commissioner Chuck Rettig said the tool is used to 'catch tax cheats. I urge all taxpayers to come into compliance with their filing and reporting responsibilities and avoid compromising themselves in schemes that may ultimately go badly for them, 'he said" [De, N. IRS to Serve Summons to Crypto Dealer SFOX Looking for Possible Tax Evaders. (Accessed August 17, 2022)]. "The IRS has issued guidance regarding the tax consequences on the use of virtual currencies in IRS Notice 2014-21, which provides that virtual currencies that can be converted into traditional currency are property for tax purposes, and a taxpayer can have a gain or loss on the sale or exchange of a virtual currency, depending on the taxpayer’s cost to purchase the virtual currency (that is, the taxpayer’s tax basis)" [Department of Justice, supra].
"Bloomberg cited an analysis released by Barclays in May that shows investors pay less than half the taxes they owe on cryptocurrency transactions. Bloomberg also carries information that SFOX has more than 175,000 users that have made $12 billion in transactions since 2015. SFOX was founded in 2014 with the backing of the Digital Currency Group, Blockchain Capital, Y Combinator and Airbnb co-founder Nathan Blecharczy" [Andersen, D. IRS takes out John Doe summons on crypto prime dealer SFOX to find tax cheat customers. (Accessed August 17, 2022)].
This is not the first time U.S. Tax Authorities have used a 'John Doe Summons' against a cryptocurrency entity. In fact, the I.R.S. has previously utilized this tactic (John Doe Summonses) to attempt to gain information from Circle, Kraken and Coinbase in the recent past.