Can Traders Claim Like-Kind Exchange Tax Treatment For Pre-2018 Trades?

bitcoin taxes crypto tax audit crypto tax return crypto taxes Jul 28, 2021

Learn why the IRS may have waited until June 2021 to issue an opinion on the like-kind exchange treatment of cryptos and whether the tax treatment is still valid before 2018.


If you are a US taxpayer who traded crypto in 2017 and before, you likely have concerns regarding recent IRS actions, and for a good reason. 


The IRS recently published Letter Ruling 202124008, which concludes that exchanges of Bitcoin, Ether, and Litecoin do not qualify for like-kind exchange under Section 1031. 


What does this mean for crypto traders who claimed this treatment in 2017 or earlier?


It means that the IRS has been using the courts to force the Kraken and Poloniex exchanges to turn over taxpayer trading records from 2016 to 2020.


And if you traded in 2017, these actions may directly affect you. 


Therefore, many crypto traders are asking if they can still claim like-kind exchange to protect themselves in an audit. Let's dive in.  


Why Is Like-Kind Exchange So Important?


Section 1031 of the tax code has been in the tax code since 1921 to promote investment by deferring the taxation of gain when a property is exchanged for another property of like kind. The cost basis and holding period of the first property are transferred to become the cost basis of the second property.


Most US crypto traders in 2017 believed crypto-to-cryptos were not taxed. They felt only crypto-to-fiat trades would be taxed. This is how like-kind exchange worked. Consequently, most crypto traders in 2017 never reported their trades on their taxes.


Congress changed Section 1031 so that it only applied to real estate beginning in 2018. 


By claiming like-kind exchange, a trader can defer/avoid capital gains tax on his trades.


Even before 2018, tax professionals and traders have asked if like-kind exchanges applied to crypto trading. The IRS was silent. They offered no guidance until June 2021, when they issued Letter Ruling 202124008, implying that crypto trades are not eligible for like-kind exchange treatment.


Related Reading: Crypto Tax Expert: Like-kind Exchange (LKE) Is Highly Effective And Equally Controversial


What Authority Does A Letter Ruling Have?


Not everything released by the IRS has the same authority under law. There is a hierarchy of legal importance. The tax law passed by Congress has the highest authority. Next comes formal IRS Regulations, Rulings, and Procedures. Beneath these authorities comes non-binding private letter rulings, technical memorandum, notices, and announcements. 


Taxpayers can write to the IRS Counsel’s Office to get an opinion on a situation. This is called a private letter ruling. This is not the same thing as a court ruling. This opinion is not law. Every private letter ruling includes a statement to the effect “This chief counsel advice may not be used or cited as precedent.” The benefit of a private letter ruling is that it gives insight into how the IRS Counsel’s Office is thinking. It is non-binding on taxpayers. A letter ruling is rarely the last word on a matter.


Related Reading: IRC Section 1031: Like-Kind Exchange Treatment Of Cryptocurrencies Explained


What Legal Argument Is Raised For Like-Kind Exchange By The Letter Ruling?


The letter quotes Treasury regulations 1.1031-1(a)-1(b), “(b) Definition of “like-kind.” As used in section 1031(a), the words like kind have reference to the nature or character of the property and not to its grade or quality. One kind or class of property may not, under that section, be exchanged for property of a different kind or class.


The letter ruling says Litecoin is different from Bitcoin and Ether because Bitcoin and Ether were used to buy and sell fiat and other currencies, implying that Litecoin could not be used this way. Specifically, the letter states:


In 2016 and 2017, Bitcoin, and to a lesser extent Ether, held a special position within the cryptocurrency market because the vast majority of cryptocurrency-to-fiat trading pairs offered by cryptocurrency exchanges had either Bitcoin or Ether as part of the pair.


In other words, an individual seeking to invest in a cryptocurrency other than Bitcoin or Ether, such as Litecoin, would generally need to acquire either Bitcoin or Ether first. Similarly, an individual seeking to liquidate his or her holdings in a cryptocurrency other than Bitcoin or Ether, such as Litecoin, generally would need to exchange those holdings for Bitcoin or Ether first. In contrast, Litecoin’s trading pair availability at the time was substantially more limited.”


The second claim by the letter is that Bitcoin was not of like-kind with Ether because Ether offered smart contracts. The letter states:

“However, while both cryptocurrencies share similar qualities and uses, they are also fundamentally different from each other because of the difference in overall design, intended use, and actual use. The Bitcoin network is designed to act as a payment network for which Bitcoin acts as the unit of payment. The Ethereum blockchain, on the other hand, was intended to act as a payment network and as a platform for operating smart contracts and other applications, with Ether working as the “fuel” for these features. Thus, although Ether and Bitcoin may both be used to make payments, Ether’s additional functionality differentiates Ether from Bitcoin in both nature and character. Therefore, Bitcoin and Ether do not qualify as like-kind property under section 1031.”


No other arguments are offered to justify the IRS’s opinion. Their position seems logical, but is it compelling?


What Counter-Arguments Can Be Raised For Like-Kind Exchange?


The core legal issue comes from the regulation quoted earlier. Are the differences between the three cryptocurrencies one of “nature and character” or of “grade or quality”? The IRS claims the differences between Bitcoin and Ether are of “nature and character.” The argument against Litecoin is based upon popular usage during 2016-2017. Does popular usage constitute “nature and character” of a property? 


How do we determine when a difference is one of “nature and character” or “quality and grade”? This is the crux of the issue.


Let us look again at the regulation 1.1031-1(a)-1(b) quoted by the IRS, but notice the third sentence that they omitted:


“(b) Definition of “like-kind.” As used in section 1031(a), the words like kind have reference to the nature or character of the property and not to its grade or quality. One kind or class of property may not, under that section, be exchanged for property of a different kind or class. The fact that any real estate involved is improved or unimproved is not material, for that fact relates only to the grade or quality of the property and not to its kind or class.” (Emphasis added)


For example, raw land can be exchanged for an office building; a warehouse can be exchanged for retail property or a rental house for a Replacement Property Interest in a 300-unit apartment complex. If these significant differences are only differences of grade or quality, then perhaps the differences between Bitcoin, Ether, and Litecoin are only of grade or quality?


There are about 1400 court cases on Section 1031. That is a lot of cases about one specific law. This indicates that many taxpayers have disagreed with the IRS’s opinion on like-kind exchange during an audit because they took the IRS to court. When the law was created in 1921, the investment landscape was much different than today. Advances in technology and intangible assets have forced the courts to stretch the laws to apply to new situations. The courts have generally been liberal in interpreting section 1031 because the purpose of the law by Congress was to promote investment.


The letter ruling denies like-kind exchange because the cryptocurrencies have some differences. The court ruled, “Section 1031 refers to property of a like – not an identical – kind. The comparison should be directed to ascertaining whether the taxpayer, in making the exchange, has used his property to acquire a new kind of asset or has merely exchanged it for an asset of like nature or character.” See Koch v. Commissioner, 71 T.C. 54, 65 (1978).


The letter ruling asserts, “an individual seeking to liquidate his or her holdings in a cryptocurrency other than Bitcoin or Ether, such as Litecoin, generally would need to exchange those holdings for Bitcoin or Ether first.” There are several problems with this claim.


  • In 2017, Coinbase, the largest American exchange, allowed buying and selling Litecoin with US dollars.
  • Today, Litecoin can be purchased with eleven fiat currencies.
  • Is it a matter of nature and character or popularity that caused Bitcoin and Ether more predominate? Popularity is a function of market capitalization, price stability, and the emergence of exchanges trying to avoid anti-money laundering rules on fiat transactions.


The letter ruling also asserts that because Ether could make smart contracts, it was not of like-kind with Bitcoin. On the surface, that sounds true, but it is not. 


Most crypto traders are unaware that, from the beginning, Bitcoin supported contracts. Ether added some additional contract functions that popularized contracts. Wouldn’t these extra functions be a matter of “quality and grade” rather than “nature and character”?


IRS Notice 2014-21 defined cryptocurrencies to be property. Not just property, but they were virtual currencies. The IRS defined them as convertible virtual currencies, not just any virtual currencies because they were a store of value. With this Notice, the IRS concedes significant similarity (like-kindness) for all cryptocurrencies.


This article has only touched on some legal arguments and court cases supporting our opinion. We have done significant legal research not shown here. 


The letter ruling’s arguments are not as compelling as they seem. They are weak and flimsy. Don’t assume that the IRS would go to court to defend it.

Why Did The IRS Wait Until June 2021 To Issue This Letter Ruling On Like-Kind Exchange?

Serious questions are raised on why the IRS waited until June 2021 to issue an opinion on like-kind exchange treatment of cryptos.


  • The statute of limitations allows a taxpayer only three years to amend a tax return. For taxpayers filing their 2017 return on April 15, 2018, the statute of limitations expires on April 15, 2021. Those taxpayers are unable to correct their return based on the letter ruling. 
  • Taxpayers were clamoring for guidance since 2017; why offer it now when few can do anything about it?
  • Issuing the letter now only creates fear and uncertainty.


Early in 2021, the IRS Council’s office filed “John Doe” lawsuits against Kraken and Poloniex exchanges demanding taxpayer trading information for 2016-2020. Why did they wait until 2021 to go after this data when they went after Coinbase in 2016?


  • The statute of limitation also limits the IRS to three years to audit a tax return, unless they can show that the return underreported income by 25%, whereupon the audit statute is extended to six years. Taxpayers not reporting crypto-to-crypto trades in 2017 would be vulnerable to being audited. The IRS wants to deny like-kind treatment and tax all trades plus a 20% accuracy penalty plus significant interest (~50%).


The taxpayer’s best defense is to claim like-kind exchange. Could it be that the IRS Counsel’s office issued a flimsy private letter ruling as a scare tactic to terrify taxpayers into paying huge fines without attempting a defense?


Related Reading: Why Is An Old Law Still Relevant For Like-Kind Exchange (LKE)?


Can A Crypto Trader Still Claim Like-Kind Exchange?

Our office has helped taxpayers save tens of millions of dollars claiming like-kind exchange for 2017 crypto trades. Many have amended their return to claim like-kind treatment where they had previously paid taxes. Just this year, we have clients who got refunds of over $170,000 by claiming like-kind exchange to reduce the tax bill.


We have already defended a trader in a formal audit of like-kind exchange of cryptos. Although the case hasn’t finished appeals, success looks strong. My intent is to show that the IRS position is weak with a high chance of losing if taken to court.

If you receive an audit letter for 2017 crypto trades or earlier, our office can defend you and challenge the IRS authority and evidence to deprive you of your statute of limitations protections. We believe like-kind exchange is a powerful tool to defend taxpayers still.

Book an appointment today at



Get Our Newsletter

Sign up for our monthly newsletter, a valuable resource for updates in an ever-changing crypto climate.

Your information is safe with us. By subscribing to our parent company Donnelly Tax Law you are choosing to opt-in to our mailing list and agree to our privacy policy, which you can click here to review.