Anyone who has bought into the idea that cryptocurrencies – that is, digital assets – such as bitcoin cannot be traced and are a perfect tax shelter will take a brutal shock. The author of this article, David Lesperance, examines what holders of these entities should keep in mind.
The following article is by David Lesperance of Lesperance Associates. Based in Canada, he advises people on issues such as cross-border wealth planning and solutions. We have made earlier comments from him on the issue of Americans renouncing their citizenship here.
Here, Lesperance talks about the tax implications arising from cryptocurrencies such as bitcoin. Yet another new area – even if it sometimes seems older – there are traps for the unwary. A number of jurisdictions have very different views on how to deal with cryptos such as bitcoin.
One of the main claimed characteristics of cryptocurrency was that it was “nowhere to be found” and the “perfect tax haven”. Sadly, those who believed in this nonsense now find themselves forced to make a decision about their future … do they team up and act smarter or do they keep sticking their heads in the sand and trying not to get caught by the tax authorities?
Death of the secret
Over the past year or so, any concept of secrecy in crypto has evaporated like morning dew on a summer day. The most public example of bitcoin’s traceability came when authorities revealed that they had recovered the ransom paid in bitcoin in the Colonial Pipeline ransomware case. When this happened, the horrified cryptocurrency enthusiast community immediately started talking about ways to hide their crypto activity using techniques like ‘mixers’ and more secure cryptocurrencies like Monero, Zcash, DASH, Horizen, Verge and Beam.
The fantasy that Mixers are a magic bullet imploded when Larry Dean Harmon of Senior Mixer, Helix, pleaded guilty to money laundering charges in August 2021. Of course, Helix isn’t the only one or the last. mixer that authorities are targeting.
Most other supposedly secure cryptocurrencies suffer from the fundamental flaw of mixers. Namely “someone has a record of the transaction”. Monero tries to work around this problem by using “ring signatures” and “stealth addresses”. The problem is, Monero is not really secure and those who believed in the hype and used it need to understand that their past transactions will be discovered.
Will I avoid any problem if I put it in a cold wallet?
Then there are those who think they can “darken” by placing their cryptocurrency in cold wallets and hiding them.
First of all, remember that you bought your crypto somewhere or got it through mining. This means that every crypto coin is registered on the blockchain. What we might not know is “Who owns this specific crypto coin?” This question can be triangulated and then answered by the tax authorities in several ways:
– If you bought a Tesla or other product or service with crypto;
– If you bought crypto on an exchange. This exchange now gives tax authorities all the information (such as an IP address) they have about this purchase under a John Doe summons or new regulations;
– If you have traded one crypto coin for another on an exchange, they will also provide information about that trade;
– If you ever bragged online, to a former partner or friend of your crypto business, all of those people are now motivated to collect a big whistleblower prize for whistleblowing you; Where
– If you used your cryptocurrency as collateral for a loan. Although the loan is not potentially a taxable event, the identities of the borrower and the owner of the crypto collateral are recorded by the lender; and
– If you’ve posted a TikTok showing your ride or crib and can’t explain how you paid for those extravagances in a Lifestyle Audit!
What do I do now?
With the myth of anonymity having exploded with force, those who own an undisclosed cryptocurrency now face a serious crossroad with two paths that can be taken.
Way A: condemn yourself to play hide and seek with a tax authority which has unlimited time and resources and which is joined around the world by other tax authorities who may also be ahead of you; Where
Way B: Retain the advice of a professional to:
1, prepare a tax advantaged disclosure to the tax authorities to bring you into compliance; and
2, organize so as to minimize / eliminate future tax payable.
There are national and international tax strategies that are worth exploring in depth. The most appropriate strategy or combination of strategies will be determined by the circumstances and the individual approach of the crypto owners.
How to execute a Path B strategy?
The key to minimizing the tax paid needed to become compliant is made easier by the fact that taxing cryptocurrency is still a relatively new concept for both taxpayers and tax authorities. This provides some opportunity to claim a lower potential liability than might be available in the future as the tax rules become more mature. Therefore, it is essential that the individual seeks and follows the advice of an expert tax advisor.
After becoming tax compliant, the right national solution to become more tax efficient depends on the jurisdiction to which you are subject. National solutions depend on the use of the applicable rules. This includes benefiting from the reduced rates applied to long-term capital gains, and avoiding being defined as a “trader” subject to ordinary rates. Other strategies such as “laundry sales” may be possible, but it should be noted that the US and UK want to ban this strategy. The changing rules on linen sales illustrate a fundamental problem with any domestic solution… the government often moves the goalposts without much notice.
Due to this domestic legal volatility, it is increasingly attractive to have an international strategy for immediate implementation or future assurance. This is especially true for people involved in the crypto space, as their operations are completely independent of location. As with national solutions, the requirements of an international strategy first involve setting up a plan to safeguard alternative citizenship (s) and / or residence (s).
Success or failure will depend on retaining a team of advisors who are familiar with:
a) How to best exit your current tax jurisdiction?
b) the best way to enter your new country of residence in a tax-efficient manner; and
c) how to select the appropriate residency and / or citizenship statuses that are necessary to implement your departure and resettlement.
Still on the fence? Remember that not deciding to act is making a decision.
Regardless of which tax jurisdiction you are currently in, it should be recognized that the tax authorities are chasing you with guns. The sooner you get past the denial stage, the more steps you can take to make your future brighter. Those of you with large undisclosed properties should get your house back in order BEFORE the tax authorities know about you. Once the authorities have your name, your options are greatly reduced. However, with proper planning, you can not only rally together, you can also organize legally to reduce or even eliminate future tax obligations on your crypto business.
If you’ve read this far but are still not convinced that the tax authorities are capable or motivated, then, as a last step, I suggest that you take the time to review the efforts of the tax authorities. If you are still hesitating, then I wish you good luck… because you are going to need it.