IRS Tries Again To Make Coinbase Turn Over Customer Account Data

IRS Tries Again To Make Coinbase Turn Over Customer Account Data

By Kelly Phillips Erb, MAR 20, 2017 @ 12:01 PM

The Internal Revenue Service (IRS) has taken another step towards its efforts to access to United States Coinbase customer accounts. This week, the IRS filed new documents in federal court to compel Coinbase, a California-based company which facilitates transactions of digital currencies like Bitcoin and Ethereum, to comply with a request to turn over those records. The newest round of court filings suggests that there might be wide-scale tax evasion related to virtual currency.

The initial request was filed by the Department of Justice (DOJ) on behalf of the IRS in November 2016. The IRS sought to serve a "John Doe" summons on all United States Coinbase customers who transferred convertible virtual currency (specifically, Bitcoin, since the company did not trade Ethereum at that time) from 2013 to 2015. A "John Doe" summons is an order that does not specifically identify the person but rather identifies a person or ascertainable group or class by their activities.

The request was granted by Judge Jacqueline Scott Corley. In response to the ruling, a self-identifying Coinbase customer and managing partner of Berns Weiss, Jeffrey K. Berns, filed a motion to prevent the summons from being issued. He did so as an "intervenor" meaning that he was asking the court to allow him to participate even though he had not been specifically named in the original summons.

In December of 2016, the IRS fired back, arguing that since he outed himself as a Coinbase user, Berns was no longer subject to the summons, making his motion moot. Berns filed a response claiming the IRS was attempting to "artificially moot the motion" and requested a hearing which had been scheduled for March 23, 2017. However, last week, Berns withdrew the motion to intervene. His law firm, Berns Weiss, subsequently issued a statement, saying:

We are pleased that the Government has finally filed an enforcement proceeding, so that a court can weigh in on the merits of the summons without any procedural distractions. As the enforcement proceeding moots the pending motion filed on behalf of Mr. Berns, we have withdrawn the motion. We will, however, continue our efforts to protect the rights of Coinbase customers regarding this patently overbroad summons. Thus, we plan to file a motion to intervene in the enforcement proceeding on behalf of other Coinbase customers who have contacted us and expressed their interest in fighting the summons. Mr. Berns will not be seeking to intervene, as the Government has expressly stated that it is no longer seeking any information from Coinbase relating to him.

Coinbase had also filed a motion to intervene, claiming that "the IRS offered only the slimmest of support for their expansive request." However, following this latest move by IRS, Coinbase has also withdrawn its motion to intervene, citing Berns' withdrawal and "the filing by the United States of America of a Petition to Enforce Internal Revenue Service Summons." There is now, as Coinbase noted in its filings, no reason for the March 23, 2017, hearing.

So why this newest round of court filings? Coinbase refers to it as "part of the ordinary process by which the government enforces a John Doe summons." However, the company says that it "remains concerned with the indiscriminate and over broad scope of the government’s summons and we have produced no records under the summons."

Coinbase went on to say:

Our legal team is in the process of reviewing the IRS’s motion. We will continue to work with the IRS to assess the government’s willingness to fundamentally reconsider the focus and scope of the summons. If it does not, we anticipate filing opposition papers in court in coming months. We will continue to keep our customers updated as to status.

You can read the entirety of their statement here.

In his declaration to the court in support of the IRS' petition to enforce the summons, IRS Senior Revenue Agent David Utzke noted that for the years involved, 2013 through 2015, the IRS processed, on average, just under 150 million individual returns each year. Of those, approximately 84% were filed electronically. IRS matched data collected from forms 8949, Sales and Other Dispositions of Capital Assets, which were filed electronically (remember, IRS treats bitcoin and other virtual currency as capital assets), and found what they believe to be a "smoking gun": just 807 individuals reported a transaction on Form 8949 using a property description likely related to bitcoin in 2013; in 2014, that number was just 893; and in 2015, the number fell to 802.

The IRS found those numbers noteworthy since Coinbase touts over 5.9 million customers, exchanging over $6 billion exchanged in bitcoin. The IRS also claims that "in the 30-day period ending December 14, 2015, Coinbase was the fourth largest exchanger 25 globally of bitcoin into U.S. dollars and the largest exchanger in the U.S. of bitcoin into U.S. dollars."

That's why, IRS claims, it needs the "account/wallet/vault registration" information for all U.S. Coinbase users trading in Bitcoin, "including the complete user profile, history of changes to the user profile from account inception, complete user preferences, complete user security settings and history (including confirmed devices and account activity), complete user payment methods, and any other information related to the funding sources for the account." That's just Request number 1.

IRS is also seeking due diligence information from Coinbase; "all powers of attorney, letters of wishes, corporate minutes, or other agreements or instructions records for any account for which the registered Coinbase user gave a third party access, control, or transaction approval authority"; all records of account activity, including "the date, the amount, the transaction type, the account post-transaction balance, requests or instructions to send or receive bitcoin, the names or other identifiers of counterparties, and where counterparties transaction through their own Coinbase accounts"; records of all payments processed for each merchant for which Coinbase acts as the Payment Service Provider; all correspondence between Coinbase and its users about accounts; all statements of accounts or invoices for accounts; all records of payments to and from Coinbase account users; and all exception reports produced by Coinbase’s Anti-Money Laundering System, as well all records related to investigations of those reported exceptions.

If you're trying to take all of that in, take another moment. The scope of the requests is breathtaking.

Why so broad? The IRS alleges that "there is a reasonable basis" to believe that persons in the class have "failed or may have failed" to comply with tax laws. And getting access to that data, the IRS claims, is the only way to tell for certain. Or put another way, the IRS wants to comb through millions of pieces of data to see if any taxpayers might be cheating.

Notwithstanding the privacy concerns (and there are a lot of privacy concerns), the failure to report is a problem that the IRS might have brought upon itself. In 2013 - the first year for which data is sought from Coinbase by IRS - the National Taxpayer Advocate (NTA), Nina Olson, cited the lack of clarification over the tax treatment of digital currencies like Bitcoin, as one of the IRS' Most Serious Problems of the year in her report to Congress. Olson reported at the time that despite the explosion of virtual currency in popularity, the IRS "has yet to issue specific guidance addressing the tax treatment or reporting requirements applicable to digital currency transactions."

It was not until 2014 - more than five years after Bitcoin made its debut - that IRS issued guidance (Notice 2014-21, downloads as a pdf) on the treatment of virtual currency. The IRS determined that Bitcoin and similar currencies are to be treated as a capital asset. That means that, for those buying and selling Bitcoin as an investment, calculating gains and losses are figured the same as buying and selling stock. Complicating matters, it was not until three months later that the IRS explained how Bitcoin would be treated for offshore reporting purposes, saying, "FinCEN has said that virtually currency is not going to be reportable on the FBAR, at least for this filing season."

When it comes to traditional gains and losses, there are third party reporting systems in place to assist taxpayers with compliance (think about your form 1099-B, for example). There is no such system in place for virtual currency. Brian Armstrong, Co-Founder and CEO at Coinbase, suggested such a solution - and volunteered Coinbase as a guinea pig - last month. The IRS did not issue a public response.

To recap, the IRS had not issued guidance in 2013 as to how virtual currency would be taxed, despite calls from the National Taxpayer Advocate to do so. The IRS finally released guidance in 2014. There is no third party reporting system. And yet, in 2016, the IRS claimed that they were shocked to find that taxpayers may not have been reporting consistently. It must be, the IRS has suggested, because those taxpayers are cheating. Now it's up to the court to decide.

https://www.forbes.com/sites/kellyphillipserb/2017/03/20/irs-tries-again-to-make-coinbase-turn-over-customer-account-data/#5e4249d0175e