About five years ago, the Internal Revenue Service (IRS), gave its first, and up until recently, only formal guidance on the taxation of cryptocurrency transactions. While this advice brought some answers, it still left a lot of questions hanging in the air. On 9 October 2019, the IRS published a Revenue Ruling on the tax treatment of forks and related airdrops, and posted accompanying information on its website via a list of FAQs and answers. Among other things, this Revenue Ruling addresses ways to determine a taxpayer’s basis in cryptocurrency. Most controversially, the IRS says that hard fork could increase your tax bill – something which is likely to be the subject of spirited debate.
What is a hard fork?
A hard fork is when a blockchain splits into two versions, with any nodes that are running the old version becoming unable to accept transactions created on the new one. One version will continue running on the old network, while the other runs on the new one. It also often heralds the creation of a new cryptocurrency – take Bitcoin (BTC) and Bitcoin Cash (BCH) for example.
Addressing the tax treatment of hard fork
Hard forks could increase your tax bill – at least according to new guidance from the IRS. Hard forks and air drops pose a number of tax issues. Namely, the tax concern is whether or not a new cryptocurrency was actually issued, and if the recipient should recognize income equal to the value of the new coins at the moment they were received.
In the Revenue Ruling released on 9 October 2019, the IRS addressed the following situations:
In the second scenario, the IRS ruled that the taxpayer does not recognize gross income as there was no acquisition of wealth. There has been no transaction where the taxpayer received income.
In the first situation, the IRS reasoned that taxpayers that received new cryptocurrency as a result of a hard fork, should be taxed on their new crypto as they recognized ordinary income in the taxable year and they had the ability to dispose of the new cryptocurrency immediately after they received it.
1/ IRS releases long-awaited guidance on crypto forks and airdrops.
It is not good.
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— Marco Santori (@msantoriESQ) October 9, 2019
Let’s break it down
So, yes, hard forks could increase your tax bill. While this is not the outcome many crypto holders were hoping for, the reality is that the lack of guidance surrounding the taxation of crypto over the last decade has been slightly disconcerting. The IRS may have decided to tax hard forks, but a number of other issues are still up in the air. Here’s hoping it’ll be another 5 years before they make any more decisions.
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