FinCEN Regulations Reveal Puerto Rico Crypto Tax LoopholeFeb 17, 2021
Find out how current FinCEN regulations may reveal a massive loophole and create an opportunity for Puerto Rico crypto exchanges to transform the entire US crypto industry.
If you are an American crypto owner looking for the opportunity to report no income to the United States or on FBAR forms, then this is the article for you.
You may have recently seen that FinCEN released a notice regarding foreign financial accounts reports to include virtual currency.
And like many crypto owners, you may have felt frustrated by what appeared to be yet another example of increased regulation on crypto activity.
However, the point to focus on here is that this notice was the first time we've ever seen a formal statement that the FBAR form currently does not require the reporting of cryptocurrency.
This admission by FinCEN is significant for all crypto owners!
What Is The Significance of This FinCEN Notice?
This notice is the first time we've ever seen a formal statement that the FBAR form currently does not require cryptocurrency reporting.
It's the first time it's ever been said.
I don't think this was their focus, and may not have been what they intended to do with this notice.
However, with this notice: basically everybody in the past who didn't file FBARs for crypto is now safe.
This FinCEN notice is a significant admission, and I think it may have even been a mistake.
Now having said that, a notice such as this one is not legally binding in court.
But since the notice came from FinCEN, as an official notice, and FinCEN officially sent notification that the reporting of cryptocurrency is not required on their own paper: that becomes a significant admission.
Last February 2020, the U.S. Government Accountability Office (GAO) said that both the IRS and FinCEN needed to clarify whether cryptos need to report on the FBAR.
At that time, FinCEN never came out and said whether cryptos needed to be reported on the FBAR.
Click here for the GAO Document Download.
Now a year later, FinCEN, in my opinion, has inadvertently slipped-up and confessed reporting was not required in the past.
However, having made that slip-up in the past doesn’t mean we shouldn’t be filing the FBAR for past years. It is our position, at Donnelly Tax Law, that it is better to be safe than sorry, and over-report.
This Admission Is Significant For Crypto Owners, And Here's Why:
This first-time admission may not have been FinCEN's intention by issuing this notice, but it could lead to several exciting opportunities for crypto owners.
- With the admission in this notice, conceptually, crypto owners who didn't file FBARs for crypto in the past are now safe.
- Some oversights discussed below could create a massive tax loophole for Puerto Rico crypto residents.
Before we dive into this further, let's first begin with an understanding of what the FinCEN Notice 2020-2 is.
Understanding FinCEN Notice 2020-2
This notice says that FinCEN is looking to include virtual currency as a type of reportable account under 31 CFR 1010.350 (which is a section of the federal regulations) and is the piece of the law that refers to the FBAR form.
"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 CFR 1010.350."
What Is FinCen?
The Financial Crimes Enforcement Network (FinCEN) was established in April 1990 by Treasury Order Number 105-08 and one of Treasury's primary agencies to oversee and implement policies to prevent and detect money laundering.
What Is The FBAR?
The FBAR is a FinCEN form that the IRS administers.
As you already know, the Internal Revenue Service (IRS) is a US government agency responsible for collecting taxes and enforcement of tax laws.
The FBAR form is the short name for the Report of Foreign Bank Accounts and Financial Accounts. This form is also called FinCEN Form 114.
The FBAR form has been a requirement for individuals to complete since 2004. On this form, the taxpayer lists the maximum balances of their foreign financial accounts during the year.
The Bank Secrecy Act (BSA) is United States legislation aimed toward preventing criminals from using financial institutions to hide or launder money.
Crypto Tax Tip: Good crypto tax advice is that you should always err on the side of over-reporting when filing the FBAR form.
What Do The Current FinCEN Regulations Tell Us?
"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."
Reviewing the current regulations reveals some exciting opportunities with the rise of decentralized exchanges, which is a cryptocurrency exchange that operates in a decentralized way without a central authority and no single place of existence–
There are some interesting observations here.
The current regulations suggest that decentralized exchanges will be treated as foreign exchanges because they are not created, formed, or organized in the United States.
It defines foreign countries, including all geographical areas located outside the US.
Meaning their definition of what it means to be foreign has got to be geographically located outside the US.
But a decentralized exchange has no geographical existence anywhere.
It is what they call a Distributed Autonomous Organization (DAO), and the main idea behind DAO is establishing a company or an organization that can fully function without hierarchical management.
In crypto, we talk about these (DAO) organizations being autonomous, so this contradiction will challenge the whole definition of what foreign is in terms of the FBAR.
FinCEN is going to have to define DAOs as foreign, yet at the same time, they exist, in a sense, inside the United States.
When we talk about geography, we're talking about physical things, physical locations. Still, when we talk about Decentralized Autonomous Organizations (DAO), we are talking about organizations that exist nowhere, yet everywhere, at the same time.
They are ubiquitous.
This will create some interesting challenges in how they write the law, and at the same time, it might create some interesting loopholes.
The Current FinCEN Regulations Could Expose Massive Crypto Tax Loopholes
The opportunity here lies in FinCEN's current definition of the USA.
The current FinCEN regulations reference a definition of the United States that reads like this:
"31 CFR 1010.350(b)(3) defines a foreign entity as one created outside the United States. The United States is defined as "The States of the United States, the District of Columbia, the Indian lands (as that term is defined in the Indian Gaming Regulatory Act), and the Territories and Insular Possessions of the United States."
What Does This FinCEN Definition Mean For Indian land, And How Does That Begin To Expose A Massive Loophole?
This definition could be a massive loophole that could be explored as defined in the Indian Gaming Regulatory Act, and it is exciting.
Could this FinCEN definition also mean that we may see a rise in Indian crypto exchanges on Indian land, just as we've seen with the explosion of Indian casinos?
What Is CFR 1010.350 In The FinCEN Regulations?
31 CFR 1010.350 is the regulation requiring the FBAR form, and it defines an entity outside the United States.
What Defines The United States In These FinCEN Regulations, And How Does That Include Puerto Rico?
The United States includes Indian lands as defined in the Indian Gaming Regulatory Act and the territories and possessions of the United States, such as Puerto Rico.
And as defined in these FinCEN regulations, territories would include American's tax haven, Puerto Rico.
Puerto Rico's Act 60 is where capital gains on cryptocurrencies are 0% for Puerto Rican residents.
Puerto Rico Crypto Exchanges Could Transform The US Crypto Industry
Depending on how FinCEN changes the regulation, there may be a considerable
opportunity for all Puerto Rican crypto exchanges.
The opportunity is this: no income being reported to the United States or on FBAR forms.
This opportunity could create a massive crypto tax loophole.
Could the rise of Puerto Rican crypto exchanges transform the United States crypto industry?
Or the rise of Indian crypto exchanges like the Indian casino?
Does The Tax Loophole Exist Now, Or Are We Waiting For The New FinCEN Regulation Changes?
If FinCEN simply adds the intended notice to 31 CFR 1010.350 (c) under foreign accounts within the types of reportable accounts, and that's all they do, it is going to create all sorts of problems with decentralized exchanges.
Under 31 CFR 1010.350 (b), it defines what a US person is. That is where the definition referred to in this article is coming from.
If all they do is jam it in under reportable accounts, which is what it said in that notice, they're going to add a report type of reportable account with virtual currency.
Has This FinCEN Notice Taken Effect?
No. it has not.
This recent notice did not have a timeline for the proposed amendments or when they may come into effect.
As for now, this recent FinCEN notice only states that FinCEN intends to change the regulation.
It hasn't actually changed them yet.
What Should We Watch For?
Some interesting things to watch out for include:
- How will FinCEN define virtual currency?
- How will FinCEN redefine a foreign country?
Why? Because decentralized exchanges are DAOs and exist in no country, but they are still obligated to report them.
- How will FinCEN they define a (financial) account, and how does that apply to addresses?
Why? Because when we are talking about cryptocurrency, ultimately, we are talking about addresses on blockchains. The blockchains themselves are distributed in autonomous operations. The law is trying to talk about tangible accounts but intangibles at the same time.
It's all very interesting. So we're watching to see what FinCEN does. We don't know what they are going to say. But it's going to force them to redefine what foreign means if they want to include decentralized, autonomous organizations.
Schedule an appointment today to discuss your situation.
No tax return is too complicated at DonnellyTaxLaw.com.
We are currently defending 16 crypto owners against an IRS audit.
We've got your back at CryptoTaxAudit.com!
Become a member today.
Get Our Newsletter