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Should you be worried about crypto tax audits?
We have seen situations where the IRS has audited taxpayers specifically for their crypto taxes.
Do not panic if you receive an audit request. While the audit response may have many questions, transaction history requests, and a quick two week deadline, you likely have all the information available in your crypto tax accounts.
The IRS generally will audit back up to six years, so you should keep your records stored for that long in either a crypto tax program or in your own spreadsheet. When responding to the IRS, the best practice is to answer each request transparently and in an organized manner.
What we’ve seen the IRS ask for in an audit
While audit requests can vary in content, there are a few typical preliminary questions the IRS will ask about your crypto taxes. You can expect that they will ask you to disclose all of your accounts, including:
“All wallet ID’s and blockchain addresses owned or controlled by taxpayer.”
“All digital currency exchanges (DCE) and peer-to-peer (P2P) facilitators (e.g., Coinbase, Paxful or Localbitcoins.com) (foreign and domestic) ... with associated user IDs, email addresses, IP addresses, and account numbers relating to those platforms.”
As answered in the record keeping IRS notice response (Q&A 45), the IRS also requires the following records for every transaction:
“The date and time each unit of virtual currency was acquired,”
“The basis and FMV of each unit at time of acquisition,”
“The date and time each unit was sold, exchanged, of otherwise disposed of,”
“The FMV of each unit at the time of sale, exchange, or disposition, and the amount of money or the FMV of property received for each unit.”
“Explanation of the method used to compute basis relating to the sale or other disposition of virtual currency.” (Note that this refers to the accounting method).
Other questions we have seen can be very expansive, such as asking for “all correspondence, (e.g., emails, texts, tweets, etc.) with all counterparties to any virtual transactions.” Once you submit your response, the IRS may request follow up information based on your responses.
Canada crypto tax: CRA now launching cryptocurrency audits
The Canada Revenue Authority is also now auditing users of bitcoin and other crypto assets, as per Forbes.
The CRA has sent a questionnaire in order to understand crypto trading activity. Many crypto exchanges are enacting KYC (Know Your Customer) policies, which means they store your government ID and trading history. From this, exchanges can track and report your trading history.
Recipients of the audit had to answer a 54-part questionnaire. Here are some example questions:
When did you start getting involved in the cryptocurrency space and how did you get involved?
Do you use Shapeshift exchange or Changelly? If so, please provide us with the cryptocurrency addresses you’ve used to trade with, along with the dates you made these particular “swap” trades.
Who filed the tax returns for the period under audit? Also, what documentation was given to the tax preparer with regards to your cryptocurrency investments, in order for them to calculate the right capital gain(s) and/or income?
Can you tell us about all the cryptocurrencies that you own? Provide us with a timeline of when you made each purchase from fiat to crypto. Check out the rest of the questionnaire here.
When asked about the increased audits, the CRA released this statement:
“This unit has enhanced the CRA’s ability to monitor and enforce compliance in areas of emerging risk, including the cryptocurrency space. There are currently over 60 active audits related to cryptocurrency. The CRA is also committed to helping taxpayers understand their tax obligations when using digital currencies, and to remind them that using digital currency does not exempt consumers from their tax obligations. The CRA has published educational material on its website regarding the tax treatment of dealing in Digital Currency.”
If you are a Canadian crypto trader, we would love to help support you through preparing for a potential audit, just chat with us using the chat interface on our website.
How to get through an crypto tax audit
The easiest way to prepare for any potential audit is to purchase tax software for cryptocurrency with audit support, like our VIP crypto tax plan. You can leverage our audit experience to help you respond quickly to the IRS instead of trying to put together materials on your own.
The TokenTax dashboard also conveniently stores all your information from previous years so that you can easily share any past tax year with the IRS. All of these features are reason to choose TokenTax to manage your crypto taxes.
For the more complex audit questions, you need to be able to show proof that your tax calculation tracks all cost bases for your audit trail. Having a CPA on hand will help you respond with details about your lending activities and margin trading. It will help immensely to have crypto tax experts who have successfully guided individuals through audits before.
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