Before 2014, the treatment of virtual currency for tax purposes was somewhat of an open question. That is, would it be treated like a currency? Maybe a foreign currency? Or would it be treated like property? Or maybe a commodity or a derivative? The IRS took initial steps to answering that question in Notice 2014-21, where the IRS asserted that virtual currency would be treated like property.
A lot of practitioners thought that this was probably the right answer, as did many significant investors, but for ordinary folks who have been using bitcoin or other virtual currency to buy goods and services, it may have been a bit surprising. Essentially, the IRS characterization means that if you go to Starbucks and use bitcoin to buy your coffee, while it may seem to you the same as using dollars, for tax purposes, it’s more like using gold. And if your gold has appreciated in value since you acquired it, you may owe tax on the gain. Same thing with virtual currency. The problem arises because using virtual currencies to buy things seems much more like using cash than like using gold, so many virtual currency users may not have even considered that there could be potential tax consequences. Continue Reading