IRS summonses’ additional information are being sent to holders of crypto exchange accounts.

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The most recent John Doe summons developments indicate that the IRS is worried with cryptocurrency — it’s better to protest than it is to be audited.

The Internal Revenue Service of the United States has been aggressively pursuing cryptocurrency for more than five years, and the rate is quickening. The IRS went after offshore accounts many decades ago, and it was one of the most fruitful attempts in IRS history. The IRS is now after bitcoin, although there is no suggestion that the IRS intends to crash the market. The IRS is interested in crypto tax data in a major way, from asking about it on every tax return to its new Hidden Treasure campaign and more.

The collective efforts of the IRS are impressive, and it is unlikely that the IRS will stop anytime soon. They are going to court as well, going after the exchanges that have customer data. First, there was Coinbase, and now, a federal court in Massachusetts has entered an order authorizing the IRS to serve a “John Doe summons” on Circle Internet Financial Inc. Notably, the summons effort also goes after Circle’s predecessors, subsidiaries, divisions and affiliates, including Poloniex LLC, which Circle purchased in 2018. The pattern is similar to what occurred with Coinbase. The IRS’ goal is to obtain information about U.S. taxpayers who managed at least $20,000 worth of transactions in cryptocurrency between 2016 and 2020. IRS Commissioner Chuck Rettig said:

“The John Doe summons is a step to enable the IRS to uncover those who are failing to properly report their virtual currency transactions.”

U.S. District Court Judge Richard Stearns seems to agree with the IRS and Justice Department that taxpayers could be hiding taxable income from the IRS using crypto.

He found that “There is a reasonable basis for believing that cryptocurrency users may have failed to comply with federal tax laws.” There may well be more litigation, but for now, the judge’s order grants the IRS permission to serve a John Doe summons on Circle. According to the court’s order, the summons seeks information related to the IRS’s “investigation of an ascertainable group or class of persons” that the IRS has a reasonable basis to believe “may have failed to comply with any provision of any internal revenue laws.”

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This isn’t the IRS’s first John Doe summons, or even the first one for crypto. The IRS summons efforts for crypto customer data started with Coinbase, leading to a federal court in California entering an order authorizing the IRS to serve a John Doe summons on Coinbase Inc. Apart from Circle, another IRS summons dispute is now underway in California with Kraken (Payward Ventures Inc).

The scope of the Kraken summons request is similar. That is, it is seeking information on users who reached $20,000 in transactions from 2016 to 2020. The court has already responded, saying the government’s request is “overbroad” and that it will have to refile the request with a narrowed scope. But if history is any guide, the IRS may end up getting some information. Just look what happened with Coinbase, where court battles over the summons ended up compromised. Coinbase litigated the case for a while, but Coinbase and the government eventually reached a deal for a more limited class of information that Coinbase would’ve had to turn over.

The IRS, John Doe summons and privacy

Any summons from the IRS should be taken seriously. However, a John Doe summons might seem more like a fishing expedition that could easily be seen as overbroad. With a normal summons, the IRS seeks information about a specific taxpayer, a person whose identity the IRS knows. In contrast, a John Doe summons is about getting names and details of people from only a description. It allows the IRS to get the names of all taxpayers in a certain group. A John Doe summons is ideal for pursuing account holders at a financial institution. Notably, it was a John Doe summons that literally blew the lid off the hushed world of Swiss banking in 2008. That was when a judge allowed the IRS to issue a John Doe summons to the Union Bank of Switzerland, or UBS, for information about U.S. taxpayers using Swiss accounts.

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Swiss law prohibits banks from revealing the identity of account holders, but the rest is history. More than a few observers have noted that the IRS launched its over $50 billion offshore sweep with that summons. The IRS tells its own examiners to use a John Doe summons only after trying other routes. According to the IRS Manual, “It may be possible to obtain taxpayer identities without using a John Doe summons, but success can breed success.”

Following the discovery of American taxpayers with UBS accounts, the IRS followed up with HSBC in India and Citibank and Bank of America in Belize. And, while it can take time for the IRS to gather and analyse any information it obtains, you can guarantee that the IRS will bring the information it obtains to good use. Remember the digital money is a continuing subject of an IRS criminal investigation.

The IRS and cryptocurrency

The IRS recently launched a digital currency enforcement initiative to counter tax noncompliance relating to the use of digital currency through outreach and taxpayer audits. The IRS says it will continue to aggressively counter noncompliance-related and digital currency transactions through a range of initiatives ranging from taxpayer outreach and audits to criminal investigations. For some time now, the IRS has been using tools to track down user names.

After the IRS declared in Notice 2014-21 that digital currency is property for federal tax purposes, it has been a long seven years. This advance note clarifies how general federal tax principles extend to digital currency purchases. Taxpayers who fail to accurately declare the income tax on digital currency purchases can be subject to tax, fines, and interest. Taxpayers can also face criminal charges in some cases.

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These new John Doe summons updates, including the 10,000 notice letters the IRS sent to crypto investors some time back, should serve as a wake-up call, even for people who have never dealt with any of these exchanges. If you are not attempting to disclose taxes in the manner desired by the IRS, failing to use either of these targeted exchanges does not mean you are exempt. Besides, simple monitoring isn’t that difficult. Amending tax returns to request large tax refunds is a well-known audit cause, but amending to record additional revenue and pay additional tax is normally far less so.

Furthermore, it has the potential to prevent even larger problems. Be cautious when amending returns. Under penalty of perjury, all returns must be signed. If you are aware that you have made any reporting mistakes or omissions, consider making correction filings for previous years as well as paying taxes without being questioned. If a taxpayer takes corrective filings before being audited or prosecuted, the IRS is usually much more forgiving.

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