IRS Nabs Big Win Over Coinbase in Bid for Bitcoin Customer Data

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After the filing of a “John Doe” court case against Coinbase, the IRS has negotiated a small victory for itself in the regulation of cryptocurrencies with hopes to identify users that have been improperly reporting revenues. In summary, after several modifications to their initial request that was deemed “broader than necessary” by the Court, the IRS has been granted permission to obtain specified parameters of information regarding those Bitcoin accounts with at least $20,000 in any one transaction type (buy, sell, send, or receive) in any one year from 2013 to 2015.

IRS Nabs Big Win Over Coinbase In Bid For Bitcoin Customer Data

by: Kelly Phillips Erb , FORBES STAFF
source: Forbes.com
published: November 29, 2017

Call it a win for the federal government – mostly. The Court has issued a ruling in the battle between the Internal Revenue Service (IRS) and Coinbase, a company which facilitates transactions of digital currencies like Bitcoin and Ethereum, to determine whether the IRS is entitled to customer data. Today, the Court granted in part and denied in part the federal government’s petition to enforce the hotly contested summons: in other words, the IRS may legally investigate Coinbase account holders who may not have paid federal taxes on their virtual currency profits, but the scope of the summons has been dramatically narrowed.

The case began in November of 2016 with a request filed on behalf of the IRS to serve a “John Doe” summons on all U.S. Coinbase customers who transferred Bitcoin, a convertible virtual currency, from 2013 to 2015. A “John Doe” summons is an order that does not specifically identify the person but rather identifies a person or ascertainable group or class by their activities. The IRS argued that the “John Doe” summons was necessary because they had found evidence of noncompliance and underreporting among Coinbase customers – the agency just couldn’t identify the exact identities and scale of the problem without more information. The IRS was initially seeking all records, including third party information, related to Bitcoin transactions conducted by U.S. Coinbase customers over the 2013 to 2015 time period.

The initial request was granted and in response, Coinbase customer and attorney Jeffrey K. Berns, the Managing Partner of Berns Weiss LLP, filed a motion to intervene and have the ruling set aside. The IRS responded with a motion asking the court to deny Berns the right to intervene. Eventually, Berns withdrew his motion and in March of 2017, the IRS filed a new action seeking to enforce the summons on Coinbase. Coinbase also argued against the summons as did several “John Does.”

In its defense of the subpoena, the IRS argued that:

“There has been an explosion of billions of dollars of wealth in just a few years from bitcoin, a significant amount of which has no doubt accrued to United States taxpayers, with virtually no third-party reporting to the IRS of that increase in income.”

The IRS also scoffed at the argument that “Bitcoin and blockchain are high regulated technologies,” comparing it to “barter exchanges in the ‘Wild West’ days of the late 1970s and early 1980s, before Congress imposed reporting requirements on these barter exchanges.” Further, the IRS argued that some users of cryptocurrency “have openly acknowledged they consider using bitcoin in order to avoid tax reporting requirements.”

Even as they argued that such a broad request was necessary, the IRS agreed to narrow the scope of the summons. The IRS also agreed not to seek records for users for which Coinbase filed forms 1099-K during the time period in question or for users whose identity is known to the IRS.

After the scope was narrowed, the IRS argued that Coinbase admitted that the targeted information still involved 8.9 million Coinbase transactions and 14,355 Coinbase account holders. However, according to the tax agency, “only 800 to 900 taxpayers reported gains related to bitcoin in each of the relevant years and that more than 14,000 Coinbase users have either bought, sold, sent or received at least $20,000 worth of bitcoin in a given year.” That suggested “that many Coinbase users may not be reporting their bitcoin gains.” The IRS, the court found, “has a legitimate interest in investigating these taxpayers.”

Coinbase and other parties argued that the scope of the investigation meant that IRS was conducting something akin to a fishing expedition. The Court disagreed, finding that the IRS’ purpose in requesting the information was related to tax compliance, not research.

However, the Court did agree that the summons was over-broad. The IRS initially sought records on all U.S. Coinbase customers who transferred convertible virtual currency at any time between December 31, 2013, and December 31, 2015. Those records included user profiles, user preferences, user security settings and history, user payment methods, and other information related to the funding sources for the account/wallet/vault. IRS also sought all records of account/wallet/vault activity including records identifying the date, amount, and type of transaction, names or other identifiers of parties to the transaction; requests or instructions to send or receive bitcoin; and all related correspondence.

That request, the Court found, was “broader than necessary.” The Court determined that certain items, such as account opening records, copies of passports or driver’s licenses, all wallet addresses, and all public keys for all accounts/wallets/vaults, were not relevant to the IRS’ purpose. Other requested information, such as records of Know-Your-Customer diligence, agreements or instructions granting a third-party access, control, or transaction approval authority, and correspondence between Coinbase and the user or any third party with access to the account/wallet/vault pertaining to the account/wallet/vault opening, closing, or transaction activity, was also found to not be relevant “at this stage.” The Court did note, however, that those records “may become necessary for a specific account holder once the IRS reviews the relevant records” but would not grant unfettered access to that information for all account holders.

So what does this mean for Coinbase customers? The Court has ordered Coinbase to produce the following customer information:

  1. taxpayer ID number,
  2. name,
  3. birth date,
  4. address,
  5. records of account activity including transaction logs or other records identifying the date, amount, and type of transaction (purchase/sale/exchange), the post transaction balance, and the names of counterparties to the transaction, and
  6. all periodic statements of account or invoices (or the equivalent).

However, that information is limited to those accounts with at least $20,000 in any one transaction type (buy, sell, send, or receive) in any one year from 2013 to 2015.

No other records must be produced at this time.

This resolution likely means that many account holders are breathing a sigh of relief – for now. But as virtually currency continues in popularity, with Bitcoin blowing past $10,000 this week, you can bet that IRS won’t stop with this request. Those who are buying Bitcoin (including speculators) are currently making money – and Uncle Sam wants a cut.

The case, United States v. Coinbase, Inc. (3:17-cv-01431-JSC), is assigned to Magistrate Judge Jacqueline Scott Corley in the U.S. District Court, California Northern District (San Francisco). You can read the Order in the case here.

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