Tuesday, January 7, 2014

Bitcoins, the IRS and Tax Fraud

Cameron Keng at Forbes breaks it down:

I agree that Bitcoin is effectively pseudonymous and potentially anonymous.  But, it’s important to understand the difference between “anonymous” and “tax fraud.”  Knowingly or intentionally refusing to report or pay taxes on income earned is by definition – tax fraud.  Whether you’re likely to be caught is an entirely other argument.  Mixing the two is a mistake that we shouldn’t make.  Tax fraud is a crime that occurs the moment a taxpayer commits a crime with “intent.”

The second argument begins when we concede that we’re engaging in tax fraud.  Assuming we’re committing an intentional crime, the question comes down to what is the likelihood of getting “caught.”  We’re basically gambling or playing the odds that we’re not going to be that unlucky person that the IRS calls.

Many people believe that if the IRS “doesn’t know who owns the bitcoin” and their wealth is “entirely in bitcoin,” then the IRS can’t touch them (people are arguing that the IRS can’t levying bank accounts and garnishing wages because the IRS doesn’t know who owns the bitcoins).  I’d like to dispel this myth.  The problem with this argument is that it is short-sighted and factually incorrect.  First, it only focuses on whether the IRS is able to “track” and tax the income when it is earned.  The IRS is not required to audit an individual or business solely on whether they know that you’ve “earned income.”  If your spending outpaces your income, then the IRS is going to audit you.  This is an age where we’re able to create a “social currency” out of electrons, it’s safe to assume that the government has the technology to track spending in a meaningful way.

To prove this point, most people don’t know that the IRS requires informational reporting by credit card agencies and payment processors through 1099s.  Property is recorded publically through titles that is tracked.  The IRS is hiring talented engineering, economics and mathematical talent faster than they’re hiring tax accountants and tax attorneys for the sole purpose to create the infrastructure and algorithms that are able to improve their DIF system.  The DIF System or Discriminant Function is the process that the IRS uses to pinpoint tax audit targets.  Technology is a double-edged sword that cuts both ways.

Also, as a seasoned tax professional I’d only need to glance at bank statements, credit card statements or an asset ledger to discover whether there is tax fraud.  Unless you’re willing to live like an ascetic monk devoid of all worldly pleasures, then the IRS is going to discover that you’re lying.  Once the IRS learns of the tax fraud, then they’re capable of seizing all of your assets for a fire-sale to collect on the tax due or they’ll simply put you in jail for upwards of 10 years.  I don’t think any amount of money is going to be able to compensate me for a year in incarceration, let alone a decade.

As an example, Bob owns a million bitcoins and is a billionaire.  Bob spends a million dollars a year and owns a McMansion.  The IRS calls and asks where did this money come from?  Bob can’t explain where the money is coming from and is slapped with a giant tax bill.  Bob never pays the tax debt and is convicted of tax fraud or evasion – a felony.  Bob spends 10 years in jail.  Bob leaves jail and has to leave the country and probably can never return, if he wants to spend any money from his bitcoins.

To be fair, I’m not arguing that the IRS is an omnipotent government agency that makes the CIA look like cub scouts.  The IRS is one of the most underfunded agencies and I’m sure that millions of tax fraudulent taxpayers escape their gaze annually.  But, the real issue is whether the risk outweighs the probable benefit to you.


  1. Hey Camron Keng----------We ask not your counsels or arms. Crouch down and lick the hands which feed you. May your chains set lightly upon you, and may posterity forget that ye were our countrymen."
    It has to start somewhere........................puss.

    1. Amen...and shame on Wenzel, just because.

  2. First, avoiding taxes is a moral imperative. Anyone who willingly pays taxes is willing supporting the enemies of freedom.

    Also, anyone who owns a billion dollars (or even a million dollars) worth of bitcoin and still lives in the US is a moron. It is certainly possible to live without credit cards and bank accounts, and not own property that is recorded by title. I do this myself even though I am not rich and own zero bitcoins. I do it simply because I prefer to live outside the system as much as possible.

    1. You must be young. If living a minimalist life would actually weaken the system, it would be one thing. But it doesn’t.

    2. @ Jack

      Your argument goes for EVERYTHING that libertarians do right now, so as far as opposing the system is concerned, yours is a self-defeating argument.
      I could say that spending time on writing on politics from the libertarian position does not weaken the system *right now* either and therefor is just a big waste of precious time. People are doing it nevertheless for the principle of the thing, and because of it being a very small part of a long term perspective.

      Living a minimalist life right now may not weaken the system in any BIG part, but living it luxuriously right now is certainly strengthening it even if only a little.

      So if all one cares about is personal luxury during this life time, why bother giving a damn about the state and freedom at all?
      You don't actually expect to see a great free society during your lifetime, do you? THAT would be naive.

  3. Same goes for cash, gold, silver, etc. Now tell us something we don't know.

    1. Far from it. There is no permanent records of every transaction made in cash or gold, as there is with Bitcoin.

    2. To clarify, I meant to say that tax evasion is still a crime regardless of the medium used. With that said, Bitcoin comes with "user defined anonymity". It takes a little effort but new tools currently under development will make it easier to achieve the level of anonymity desired.

  4. This is a cheap, sleazy scare tactic by a sleezeball tax attorney. First off IRS must prove intent, a very difficult state of mind to prove. E.G. if Bob actually believed that he was not required to pay taxes IRS can lose. The IRS does not go criminal unless they are convinced they have a slam dunk case.
    Secondly, Bob does not have to explain where he got the money from. He can refuse to testify, now the IRS must prove he got the money from investing in BitCoins to get a criminal conviction.

    Civilly IRS can win easily, but since they don't know how much Bob has they might penalize him for less than the extortion he would have been required to pay and which keeps sleeze like the writer of this article in biz. Also, a ten year jail sentence does not mean Bob has to leave the country. The writer is a fear-mongering sleazeball, profiteer from IRS extortion.