Crypto Doesn’t Have to Enable Tax Cheats
(Bloomberg Opinion) -- Cryptocurrency advocates are waging a battle against legislation — part of the infrastructure package now in Congress — aimed at curbing tax evasion in the rapidly growing market. Crypto enthusiasts such as Twitter CEO Jack Dorsey, employing a combination of jargon and threats to move overseas, are seeking to create the impression that this innovative technology is somehow ill-suited to meeting the tax-reporting requirements that apply to traditional banks and brokerages.
Don’t believe it. The lack of tax information from major cryptocurrency platforms isn’t related to any technological limitation. It’s a design decision.
Stock brokerages such as Charles Schwab and TD Ameritrade regularly produce 1099-B forms, which summarize taxable gains for customers and help the Internal Revenue Service ensure that all taxes are paid. Not so in crypto — and particularly in the world of decentralized finance, where nebulously governed platforms execute transactions through automatic market makers. Consider the decentralized finance (“DeFi”) exchange Uniswap, which gave away 150 million UNI coins to users last September — a taxable windfall worth at least half a billion dollars, and possibly as much as a few billion dollars total, depending on when people claimed their “airdropped” tokens. Uniswap didn’t send out any forms to help users understand their tax liability, leaving them to figure it out for themselves. Many might simply ignore it, or turn to one of the third-party services that in some cases charge up to hundreds of dollars to generate tax forms.
The legislation in Congress seeks to address this problem by extending 1099-type reporting requirements to crypto intermediaries, part of a broader effort to counter the vast underreporting of taxable cryptocurrency gains. The Joint Committee on Taxation estimates that the reporting change alone would bring in $28 billion over the next decade. As sensible as this may seem, lobbyists for the crypto industry insist that platforms “don’t have access to the information required.” DeFi exchanges, for example, typically identify their users only by the public addresses of the crypto wallets from which users engage in transactions. Providers of digital wallets, where users store their tokens, also don’t usually collect the kind of data the IRS needs.
Yet experience demonstrates that the intermediaries are perfectly capable of doing things differently. Swarm Markets, a DeFi platform in Germany, is building a system with identity verification, making it compliant with “know your customer” rules designed to counter terrorist financing and money laundering. And the industry displayed an impressive ability to organize and communicate when it compelled a hacker to return nearly all of the $610 million stolen from the DeFi protocol PolyNetwork. The PolyNetwork “team” published a letter warning the hacker that law enforcement would pursue them, many crypto miners and exchanges blacklisted the hackers’ electronic address at PolyNetwork’s request, and the stablecoin Tether single-handedly blocked the attempted transfer of $33 million. If they can sanction a single address so successfully, they can also refuse to do business with any address that doesn’t provide the information needed to generate a tax form.
Sometimes, the lack of reporting is blatantly intentional. The Colorado-based crypto exchange ShapeShift, for example, started routing orders through DeFi platforms in order to avoid know-your-customer regulations. As ShapeShift’s CEO Erik Voorhees put it, the move “removes some of the ability of regulations to apply.” While the Blockchain Association, an industry group, purports to believe firmly that “all taxpayers should pay the taxes they owe,” Voorhees has said that Bitcoin is useful for “starving the empire of tax revenues.”
Many in the crypto industry portrayed the tax reporting required by the infrastructure bill as nothing less than an existential threat. The CEO of crypto exchange Kraken, Jesse Powell, tweeted a “Join, or Die” graphic, urging followers and “cryptohornets” to “publicly shame” members of Congress. And Messari Crypto CEO Ryan Selkis (who recently closed on $21 million in funding from investors including Steve Cohen) described Treasury Secretary Janet Yellen as a “white collar criminal” and called on the industry to “destroy crypto’s enemies before they destroy us.”
There’s no such threat. As Omri Marian, a law professor at the University of California, Irvine, put it, the industry is merely seeking to preserve an “unwarranted, accidental tax preference” that “enables tax cheats to, well, cheat.” Enhanced reporting will actually benefit law-abiding investors, providing greater certainty and convenience.
I worked at a major U.S. investment bank, Merrill Lynch, before and during the 2008 financial crisis. Our technology team constantly had to balance competing priorities for our in-house trading software. What the traders, sales, operations and compliance teams wanted never matched up, and time and resources were limited. In my experience, the trading desk’s plans for new products always trumped requests from compliance. The cryptocurrency market seems to be in a similar place, where so-called innovation is prioritized over complying with the law. That’s not a technological matter: It’s a marker of what an industry values.
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Alexis Goldstein is the director of financial policy at the Open Markets Institute. She previously worked in finance, focusing on electronic trading and equity derivatives, before becoming active in the Occupy Wall Street movement.
©2021 Bloomberg L.P.