2019 IRS Cryptocurrency Guidance on Hard Forks and Air Drops

On: December 13, 2019

In October the United States Internal Revenue Service (IRS) issued new guidance for taxpayers to calculate the taxes they owe on cryptocurrencies. It was the first time in five years that the IRS had issued guidance related to paying taxes on crypto. Given that the entire cryptocurrency industry is hardly over a decade old, the new IRS cryptocurrency guidance marks a big step forward on the regulatory and tax compliance side of things. Bitcoin’s advent was as recent as 2009, when the first block on its highly secure blockchain was “mined” in January of that year. Of course, almost no one even knew about bitcoin or cryptocurrency back then. So in terms of popular awareness, the IRS has taken more than half the current lifetime of the burgeoning cryptocurrency industry to issue an update. It’s important to take notice of the new crypto tax guidelines, because they do create additional obligations for individuals and businesses that hold cryptocurrency. As the IRS notes on its website:

“In 2014, the IRS issued Notice 2014-21, 2014-16 I.R.B. 938 (PDF), explaining that virtual currency is treated as property for Federal income tax purposes and providing examples of how longstanding tax principles applicable to transactions involving property apply to virtual currency.”

The additional 2019 IRS cryptocurrency guidance includes updates to the Internet Revenue Service’s FAQ page, and new crypto tax regulations entitled, “Revenue Ruling 2019-24” (RR-19-24). The update stands on and solidifies the previously held IRS position since 2014, that crypto is to be treated as a form of property for tax purposes, and that profits made from the sale of cryptocurrency should be treated as capital gains on a security (like stocks or financial derivative instruments used for investing and speculating on equities markets). But in addition to standing on previous tax policy regarding cryptocurrency, the 2019 IRS cryptocurrency guidance update explains how to calculate taxes on digital assets acquired from “hard forks” of previous blockchains to individuals and businesses who deal with crypto. The supplementary hard fork guidance also clarifies the tax agency’s position on coin or tokens acquired from “air drops” by third parties to users’ crypto wallets. When there is a hard fork, the nodes on a network of miners that maintain a cryptocurrency’s blockchain divide into two groups that begin creating and maintaining two different chains from a certain point of divergence on the previously agreed upon consensus blockchain. The Bitcoin (BTC) / Bitcoin Cash (BCH) fork in 2017 is a famous example. Litecoin (often considered to be the “silver” to Bitcoin as a digital asset that simulates the properties of gold) was also created as a hard fork off the Bitcoin Core implementation in 2011. For hard forks, the IRS clarifies:

“A taxpayer does not have gross income under § 61 as a result of a hard fork of a cryptocurrency the taxpayer owns if the taxpayer does not receive units of a new cryptocurrency.”

As for air drops, the updated IRS rules for 2019 state:

“A taxpayer has gross income, ordinary in character, under § 61 as a result of an airdrop of a new cryptocurrency following a hard fork if the taxpayer receives units of new cryptocurrency.”

For help preparing your crypto filings, consult Leading Tax Group, specializing in digital assets today.