Abusive crypto taxation in California reminds us why privacy matters

On November 3rd 2018, bitcoinist and crypto influencer Whale Panda took to Twitter to share an interesting Reddit post which tells a compelling story about how crypto assets are taxed. In a nutshell, it’s about a young person who bought cryptocurrencies on Coinbase in early 2017, has watched his portfolio grow exponentially in value, hasn’t sold any of the coins for fiat, but owes the state of California about $400.000 in taxes.

The case should be worrisome and make both regulators and cryptocurrency holders give this entire process a little more thought. Had the young man in our story bought Apple stocks, he wouldn’t have to pay taxes for his investment unless he cashed out. But in the case of cryptocurrencies, he basically has to pay money that he does not have for financial gains that never really materialized.

Similarly, imagine that you bought Egyptian antiques off Craigslist, discovered that their price has skyrocketed within months due to a current trend which made them fashionable, and you were automatically reported to the IRS for just owning them and being worth much more (despite never selling your possessions at an auction). It sounds ridiculous, doesn’t it?

But Coinbase, as an American company which complies to the fiscal laws of the land, was forced by greedy and clueless legislators to send reports on costumers who made investments. To those government officials, it didn’t matter that the cryptocurrencies were never sold for any kind of fiat, they simply wanted to tax according to their poorly informed assumptions.

The most frightening thought isn’t that a young man, who at some point was theoretically worth almost a million dollars in crypto, must pay a sum that he never physically owned. We’re dealing with a situation that can create a dangerous precedent and turn HODLing and crypto trading into an expensive luxury that very few people can actually afford.

The fiscal implications of buying cryptocurrencies from a KYC exchange

In the case of Reddit user Throwaway283921, he must pay taxes for capital gains because he’s done crypto to crypto trades, invested in some ICOs, and constantly sought to maximize his investment. Though the issue appears to be a little vague at first, he didn’t stick to his HODLing and, under the fiscal jurisdiction of the state of California, must pay taxes which are pretty much calculated using the highest prices of the cryptocurrencies he’s owned.

As it turns out, California considers that crypto trades are taxable events. This fact should make us all think about the consequences of starting out on platforms like Coinbase or Robin Hood, then recklessly getting involved in exchanging BTC for ETH or LTC according to your gut feeling on price increase. A lot of newbies receive the recommendation to start out on one of those friendly KYC exchanges, and they aren’t properly instructed on the tax implications of their state (they’re just supposed to know).

In comparison, had he bought their coins from a miner or whale from Local Bitcoins or some kind of crypto retailer, then proceeded to exchange the coins on ShapeShift or some kind of decentralized exchange, then none of this would have occured.

One could argue that owing $400.000 in tax money for an investment which reached $880.000 at its peak is insane. The rate is nearly 50 percent and the reason behind the taxation is vague at best. If the person has never used fiat money in this process and hasn’t withdrawn from the exchange, then they should pay their taxes in the cryptos that they own. That would be a fairer way of dealing with the situation, but then again. the legislators have probably passed the bill as a way of capitalizing on the bull market. His possession of USD was only hypothetical and based on the movements of the market, so it makes no sense to tax in fiat if the young man never owned it.

Unless regulators adjust to fairer practices, it’s better to buy crypto via private or OTC trades

We already have an unfortunate precedent which should serve as food for thought and give us enough of a reason to participate in crypto regulation debates in our communities. It’s absurd to ask for taxes in fiat as long as the cryptocurrencies have never been cashed out. If anything, in the event that the taxman is greedy, we should make sure that the taxation takes place in the same crypto assets that were traded, and the collectors instantly dump them on exchanges to get their fiat (or speculatively HODL themselves).

If HODLing is a taxable event just because you bought 0.1 BTC on Coinbase and had it in your wallet for an entire fiscal year, then this can potentially turn into a luxury that very few people can afford. Let’s assume that a phenomenal bull run happens, and then the price crashes just like in January 2018. Those who did not sell will most likely see the valuation of their assets drop significantly – it would be outrageous and dumb to tax them even if they never traded their assets for fiat, and at the highest price point from the previous bull run.

Legislators and regulators should understand that 1 BTC is still 1 BTC regardless of volatility in relation to fiat, and acknowledge that cryptocurrencies are global currencies. Sure, this is threatening to their national currencies, but so is ignorance (as wealthy people will simply buy Bitcoin to avoid paying taxes). Governments should walk on their pride and start accepting taxes in cryptos, as they would be the fairest in every situation. They can potentially get less fiat after the trade, but at least they get something (as opposed to basically encouraging people to buy Monero and completely dodge taxation).

But in order to push the authorities to stop enacting such greedy and abusive taxation policies, it’s better to just buy your coins from miners or get a job which allows you to get paid in them. Make trades only through decentralized exchanges, avoid exposing your public key so nobody really knows how many coins you own, and add your coins to a regulated exchange only when you want to withdraw fiat. This enables you to pay the fair amount in taxes and retract yourself from the arbitrary application of the law. Hopefully, it will also teach regulators a lesson about how they should deal with cryptos.


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Author: Vlad Costea
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