Major Changes Needed to Promote Bitcoin

by Charles Morris / /

Bitcoin has just reached a record high value, but current government regulations still make it an impractical form of daily currency. Before Bitcoin and other forms of cryptocurrency are realistic forms of everyday currency, there are two important issues that must be addressed. First, Bitcoin must find a permanent fix to the problem of its slow transaction time. Each second, Bitcoin can complete about 3 transactions, while companies like Visa can complete thousands. Second, for tax purposes, the IRS must classify cryptocurrency as real currency, and not as property. Under its current classification, even with quicker transaction times, Bitcoin is not a feasible, widespread alternative to physical currency for consumers.

In order to combat the first problem, the decision was made that the blockchain would split into two currencies, Bitcoin and Bitcoin cash.

It's the cryptocurrencies that have stepped up to the plate to score solutions for consumers, and the IRS as the umpire needs to update its rule book. The value of Bitcoin continues to rise, but its impracticality for everyday use is disappointing due to its current tax classification.

Bitcoin’s lack of utility is best explained through an example. Property transactions are taxed based on the change in value from the time of purchase to the time of sale. Let’s say a single taxpayer makes $100,000 per year and decides to invest $1,000 in a cryptocurrency, like Bitcoin. Five months later, the value of the purchased bitcoin has increased to $1,500. Unfortunately, if this taxpayer wants to use these bitcoins to purchase say, a new laptop worth $1,500, the total cost of the purchase would be $1,640. Because of the increase in the value of bitcoin between the time of the two transactions, a $140 tax is assessed by the IRS. This high rate on a single transaction simply does not make sense. Sales tax rates vary by state, but none are this high. For example, in states like Delaware, no sales tax is collected. Even in my home state of North Carolina, which has extremely high state and local sales taxes, only around $100 would be collected in sales taxes on a similar purchase.

Bitcoin’s classification as property also leads to an unfavorable outcome to those who experience trading losses. The IRS limits how much a property (or in this case, Bitcoin) investor can write off in personal tax returns to only $3,000 a year. Not only does the IRS take more away from investments that have gained value, but they provide less protection for those that lose value.

The complications of the Bitcoin classification as a property do not end here. Not only are gains taxed at a ridiculous rate, but Bitcoin users must keep track of every purchase made using their bitcoin, and track the value that bitcoin has gained since the time it was purchased. This even further complicates the bookkeeping required to own and trade Bitcoin, as well as raises questions about potential grey areas, as noted by Investopedia’s Ryan Selkis in a example of Joe, a hypothetical bitcoin user:

The complexity quickly begins to spiral out of control from there. What happens when he is settling up with his friends to pay the bar tab? Is Joe able to select which specific wallets he uses for his coffee purchases so that it's easier for him to separate his trading gains and his consumption? Would it be considered a wash sale if Joe bought more bitcoins after spending all of his assets on patio furniture at Overstock and stocking stuffers at Gyft (both of which accept Bitcoin as payment)?

This makes sense for property, since individual homes and large properties are not bought and sold multiple times a day. The current tax code does not complicate investing in a home very much, but it does not make sense to calculate taxes on buying homes and buying virtual currencies the same way.

It is difficult, if not nearly impossible, to keep track of individual purchases being made using virtual currencies. Combine this with the change in value since the time of purchase, including simple things like purchasing a cup of coffee, an Uber ride, or even a pack of gum. This tax record-keeping requirement imposes a significant time burden on cryptocurrency users as well as vendors who accept digital currencies, limiting its use in commerce.

Bitcoin and other currency companies are innovating to improve value and ease of use for consumers. The IRS, on the other hand, continues to make life harder for consumers. The classification of Bitcoin and other digital currencies as property must be changed in order to encourage consumers to invest and contribute to a successful economy.