Learn how to protect yourself from the intimidating Virtual Question on new IRS Form 1040 and understand all the confusing terminology.
Many cryptocurrency owners are confused by what is meant by the term virtual currency.
Is there any difference between virtual currency and cryptocurrency?
We'll teach you today.
Many crypto traders fear that if they answer “Yes” to this new virtual currency question on Form 1040, the IRS will audit prior returns.
Related Reading: Crypto Owners Terrified Of New 1040 Tax Question
We are going to put you at ease, so you can sleep soundly knowing the knowledge you’ll learn today is powerful.
We've prepared this Q&A to help guide you through the terminology used in the Virtual Currency Question on Form 1040 and the best way to answer this question in order to protect yourself from the IRS.
How Does The Virtual Currency Question Read?
It says, “At any time during [the year], did you receive, sell, send, exchange, or otherwise acquire any financial interest in any virtual currency?”
What Is Virtual Currency?
Rather than asking if you own cryptocurrencies, the IRS has chosen to use a more general term, virtual currency.
This term is very broad. It is defined in IRS Notice 2014-21 which says:
“Virtual currency is a digital representation of value that functions as a medium of exchange, a unit of account, and/or a store of value. “
When A Virtual Currency Is A Digital Representation Of Value, What Does That Mean?
A digital representation would be a value that is stored electronically.
If a twenty-dollar bill is an example of a physical representation of value, then two hundred dollars in my bank account would be a digital representation of value.
When A Virtual Currency Functions As A “Store Of Value,” What Does That Mean?
The IRS does not define what is meant by a “store of value.”
This phrase comes from the field of Economics.
It is one of the four attributes of money.
“A store of value is essentially an asset, commodity, or currency that can be saved, retrieved, and exchanged in the future.”
This definition is true of most cryptocurrencies.
This definition also applies to airline frequent flyer miles that can be exchanged for value in the future.
Frequent flyer miles are like money when buying plane trips. Industry experts say that 2/3rds of all airline flyers belong to a frequent flyer club.
Another example of a virtual currency would be credit card reward points.
People accumulate these points because they know they can buy goods in the future.
According to the Federal Reserve Bank of Atlanta, 75% of American consumers own at least one credit card.
Other examples of virtual currency could be grocery store reward cards and Amazon gift cards.
What Does It Mean To “Receive, Sell, Send, Exchange, Or Otherwise Acquire Any Financial Interest In Any Virtual Currency?”
Acquiring a financial interest is a very broad phrase.
It encompasses the other verbs: receiving, selling, sending, and exchanging.
The moment you buy your first cryptocurrency, you have a financial interest in virtual currency.
Joining a frequent flyer club or getting a new credit card and receiving the initial points gives you a financial interest in that virtual currency.
Should You Answer “Yes” To The Virtual Currency Question?
Easily, over 75 to 90% of taxpayers have a “financial interest in virtual currency.”
That means at least 75% of taxpayers should check “Yes” on the IRS virtual currency question.
Answering “No” when in fact, you do have a financial interest in cryptocurrency is perjury.
This question is designed to catch people trying to hide.
When you sign your tax return, you are swearing, “Under penalties of perjury, I declare that I have examined this return and accompanying schedules and statements, and to the best of my knowledge and belief, they are true, correct, and complete.”
Perjury is a felony and is punishable with prison.
Some traders who have not reported all their past crypto transactions are afraid that checking yes will encourage the IRS to review their past returns.
Based on my substantial experience with the IRS, this answer alone would not invite an audit.
The dangerous option is to answer “No.”
Failing to check “Yes” when you should have, exposes you to claims of filing a fraudulent tax return.
It would be grounds for losing your statute of limitations protection of three years on auditing a tax return.
What If Everybody Said “Yes” To The Virtual Currency Question?
Rather than cowering in paranoia, encourage everyone to check “Yes” on this question for the reasons just stated.
If everyone checks “Yes,” the question would become meaningless.
The IRS is intimidating the public by asking this question before asking your gross wages.
Yet, the IRS has only offered scant and inadequate guidance on reporting cryptocurrency income.
If everyone checked “Yes,” this intrusive and harassing question would disappear from future tax returns.
So, check “Yes” on the virtual currency question.
Related Reading: Crypto Tax Expert details IRS Cryptocurrency Timeline
The article was written by Clinton Donnelly @CryptoTaxFixer
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