Taxes on forks in the US

[theymos]

I have not yet gotten this checked by an accountant. This is not legal/tax advice. But since I'm seeing all sorts of weird and almost-certainly-wrong theories, here is my interpretation of US tax law in relation to forks.

Imagine the following hypothetical:

 - Canada somehow gets access to a database of exactly how many US dollars each person owns, updated live.
 - At some exact instant in time, they take a snapshot of this database.
 - Anyone who has a balance in Canada's USD snapshot is automatically and involuntarily given a bank account in Canada containing an equal number of Canadian dollars. You can walk into a Canadian bank and withdraw the CAD, or sell it, or whatever.
 
Forks are like that, but since Bitcoin is decentralized, anyone can create one of these forks with no cost whatsoever. I could personally create a million such forks, and everyone who owns bitcoin would receive a million different currencies. You cannot avoid receiving the coins, it is done without your permission, and very often you will not even know that a fork had occurred. Furthermore, in many cases it would be unsafe to access the fork-coins due to the stupid ways in which forks are done. Due to all of these factors, I consider it impossible to account for forks at time-of-creation, and forks therefore cannot be treated as dividends or other income at time of creation.

Given that, the closest similar handling seems to be a stock spin-off. In a spin-off, you have to adjust the basis of the original asset according to the spin-off's value at time of creation. However, it is not always clear that anything is being taken from Bitcoin when these forks are created. Often, the Bitcoin price does not decrease upon the creation of one of these forks, but the fork sometimes still attains a somewhat-significant value. Some would argue that the money flowing into the fork-coin is being redirected from Bitcoin, and so the basis for the fork-coins should not be zero, but it is unclear. For example, here are the prices of Bitcoin and BCH near the creation of BCH on Aug 1, 2017:

Code:

  Date  BTC BCH
Jul 31 2796 N/A
Aug  1 2723 281
Aug  2 2759 366
Aug  3 2832 602
Aug  4 3140 377
Aug  5 3224 237

As you can see, although the BTC price dropped slightly on the day that BCH was created, BCH had a much higher value than the drop in BTC price would account for. You could theorize that the price of BTC would've been higher if the fork had not happened, but this is subjective and impossible to quantify.

An additional complication is that in a stock spin-off, there will be an official initial spin-off price based on trading on regulated futures markets and price as of market-start. But there are dozens of Bitcoin and other-cryptocurrency exchanges, none of which are "official". Forkcoins have no regulated futures markets (or regulated any markets in most cases). There is no single unambiguous starting price for the fork-coin. Trading is also 24/7 and continuous, not broken up into days. So you can't get a good initial price for forks.

Plus, if forkcoins are treated as spin-offs with non-zero value, then the following scheme seems possible:

 - Some tiny fork-coin is created, and it attains an "initial market price" of $1 on absolutely minuscule volume. In other words, although the charts show it as having a price of $1, anyone who cared to do so could bring it down to nearly nothing with just a bit of money.
 - Using spin-off basis calculations, all Bitcoin holders can now reduce the basis of their bitcoins slightly by treating the above tiny fork-coin as a spin-off, even if that fork-coin very soon disappears to basically nothing.
 - Repeat hundreds of times, reducing everyone's Bitcoin basis significantly.
 
With all of the above in consideration, my conclusions are:

 - Forkcoins are not adequately handled by current US tax law.
 - The most justifiable thing to do right now, which avoids as many of the above issues as possible, is to handle it as a capital gain at the time of sale with a basis of zero and an acquisition date of the fork time. I do not think that it is necessarily fair for BTC holders to have to use a basis of zero here, but anything else seems too difficult to calculate/justify.
 
Again, this is only my interpretation based on my own research, and it is not tax advice. Consult an accountant.

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[squatter]

Due to all of these factors, I consider it impossible to account for forks at time-of-creation, and forks therefore cannot be treated as dividends or other income at time of creation.

Neither the dividend interpretation nor the stock split interpretation seem to fit, as it's very unlikely that cryptocurrencies can be treated as securities. This CPA advises "reporting the value received as 'Other Income' on line 21 of Form 1040 —a catchall category for income that does not fit into a standard category."

That seems pretty reasonable since, as you said, US tax law doesn't adequately account for fork coins. So his take is that the $266 per BCH (price at launch) is "other income." That $266 per BCH would also form the cost basis for calculating capital gains upon selling the BCH.

Here's another idea that would reduce taxable income. He was less keen on this:

Some taxpayers might choose to use Form 8949 (Sales and Other Dispositions of Capital Assets) instead. The taxpayer reports the $266 value of Bitcoin Cash as proceeds and 9.5% of Bitcoin cost basis as Bitcoin Cash cost basis. The initial value of Bitcoin Cash was 9.5% of the Bitcoin price at that time. This alternative treatment reduces taxable income by the cost basis amount. Another benefit is capital gains use up capital loss carryovers. I question whether this method would pass muster with the IRS — Bitcoin did not decline in value by a material amount after the split, and that undermines the use of this treatment.

[codewench]

- Using spin-off basis calculations, all Bitcoin holders can now reduce the basis of their bitcoins slightly by treating the above tiny fork-coin as a spin-off, even if that fork-coin very soon disappears to basically nothing.
 - Repeat hundreds of times, reducing everyone's Bitcoin basis significantly.
 

Reducing your basis is generally bad. This will increase your future taxable income, and thus future taxes. However, if you expect your future tax rate to be lower, this could be a method of shifting income to that time.

If you do claim a basis adjustment, and the fork-coin goes to zero, then you can claim a loss. This could be a useful tax strategy if you can offset the loss against other income for which you want to reduce taxes.

A possibility: I seem to remember that Incentive Stock Options had useful tax characteristics. I think there is only taxable income when you sell them or leave your employer taking unsold vested stock with you. In other words, there is no income when they are granted or when they vest.

[jerry0]

Can anyone here confirm the answer to this then?


So if you didn't even claim your bitcoin cash or gold for example, would you have to claim anything?  My thinking was well if you claim it and sell it for either fiat or altcoins, obviously you do.  But what if you never claimed it?  What if you claimed it but don't sell etc?   Also when would it be when your bitcoin fork coin was acquired?  When they get it to everyone?  Or when you actually went and claimed it? 

[Quickseller]

I would agree that forks generally do not meet the definition of a dividend, and reasonably should not be treated as such. This is very different from tax law, however under GAAP, dividends can only be paid out of retained earnings, which would not apply to bitcoin because "bitcoin" is not a company, nor does it earn anything.

I would also agree that the most appropriate way to account for fork coins would be similar to that of a stock split. I would say that treating fork coins as having a cost basis of zero is a very conservative tax strategy, although it would probably not match current law -- this will generally be acceptable to the IRS, and would not subject to you penalties/liability as long as your strategy results in you paying at least as much in taxes as what you owe under the tax code. This may be disallowed if you sold your bitcoin but not your fork coin because it would result in you having a lower tax bill than what I believe the law provides for.


There were many venues for price discovery for the various fork coins, for example, there were futures markets for all of the major forks coins, BCH, Bitcoin Gold, and SegWit 2x (that ultimately failed/did not occur), and many major, reputable exchanges offered spot trading after each fork occurred. A tax attorney can devise a good argument to value fork coins a certain way based on the various means of price discovery.

For publicly trading corporations, a stock split should result in greater long term shareholder value, so the price of bitcoin increasing after a fork coin is not a good argument for making the cost basis of a fork coin zero.

Another point is that it is not unreasonable for a fork coin to result in Bitcoin ultimately quickly dying after the fork coin is created, resulting in it not even being possible to move bitcoin onto an exchange to sell, and it would not reasonably match current tax law to have this fork coin to have a zero cost basis, and to have bitcoin have a high cost basis when its value is zero and cannot be traded. 

[lonewolf312]

Have anyone here filled taxes mentioning bitcoin profit? I heard in California if you trade more than $20000 then you have to report it to IRS.

[jerry0]

To anyone that has already filed their taxes on the forks in the US, how did you account for bitcoin cash and gold? 


1  What if you claimed both but never sold any and are holding?

2  What if you claimed just bitcoin cash but never claimed bitcoin gold?

3.  What if you didn't even claim any of these?

4  If you did claim them, what price did you claim it at?  Is it the price on the day of the fork?  Thus same price for everyone?  Or the actual day they you yourself went through the process of claiming it?

5.  Couldn't you claim both and then hold it still but if you claim it on the day of the fork, then both bitcoin cash and gold in the future drops to zero... what happens then?  You pay your taxes on bitcoin cash and gold but what if someone has a lot of it?  Imagine someone had a lot of btc.  They had to pay 5 figures in taxes.  Then both bitcoin cash and gold drop to zero.  Well they only going to get back 3000 dollars max the next year etc? 


This is complicated because how could you take the coin date price since btc gold was like 300 something on the beginning of the day of the fork and anyone who claimed it probably did not claim it that day and if they did they probably got their wallet hacked.  But those that did, they got it in the mid 100s etc.

[CryptoBry]

To simplify the whole thing, we should view forks as just receiving any other coins available in the market and you can only be taxed when you convert the same asset into real or fiat cash. I think that is quite clear to everyone. You can receive a billion coins from forks and the government will never run after you for that and they are just waiting when you convert them. This is a very simplified way of looking at this thing.

[ulhaq]

In my view, almost all of the points above are incorrect. I will not go through all of them from all of the above posters because there are too many, but will mention a few considerations. Eg:

 - The most justifiable thing to do right now, which avoids as many of the above issues as possible, is to handle it as a capital gain at the time of sale with a basis of zero and an acquisition date of the fork time. I do not think that it is necessarily fair for BTC holders to have to use a basis of zero here, but anything else seems too difficult to calculate/justify.

The fork time cannot be used as the date in all cases. Imagine someone who did not claim ANY coins from a particular fork, and never will. Clearly there is no gain. So taxes can only be due on someone who has claimed coins. Eg, consider that the above person did not even know about the existence of a particular fork. Contrast that with someone who knows about a fork, but has decided not to claim coins at the present time. Maybe the private key is given to a relative. There is a gain, but it is not realized, so still no taxes until realization.

Another point - Several posters have cited various tax code/regulations. Cryptocurrency was invented after all those citations above, so it does not make sense to apply those specific documents. Those are only instantiations of general principles. Plus, many parts of the tax code do not make sense. Eg, the gift tax. Why should one have to pay taxes when giving a gift to another person? Imagine 3 unrelated persons who give $20 million to each other in a circle. Without spending any of of the money, it could be reduced to close to nothing just based on on the gift tax and using up all the exemptions.

Is it possible that there is no new basis at the time of a fork? Eg, consider the bitcoin cash fork and compare it to a public traded company that turns into 2 new companies with new stock in each. This is not a taxable event because the 2 companies came out of the original company. The value of the parent company stock will change to reflect that it is going to split into 2 new companies.  In anticipation of the fork, the price of BTC changes, then the fork occurs. So the original basis would be the date and purchase price of the original BTC. Imagine the person sells all BTC/BCH on a particular date in the future. The total value of what is sold in BTC + BCH, minus the total initial purchase price in BTC, is the capital gain.
But this reasoning seems fallacious, because forks can occur based on past blocks. I do not know if this has actually happened, but it is possible? Eg, imagine one purchased bitcoin on March 3, 2018 and sold all it on May 22, 2018. The capital gain or loss can be easily determined. Now let's say that on June 23, someone decides to make a fork based on the state of the bitcoin blockchain on April 5. The previous person claims it based on her private key from that time. Clearly there is now a new gain (if it has any value), which cannot be related to the previous purchase and sale of bitcoin.

Using a cost basis of zero in all cases cannot make sense. As an example, at the time of the bitcoin cash fork (which is the earliest possible time that a basis could be established), there was considerable value on all the most active exchanges where it was trade-able. The futures markets use a price of bitcoin calculated from 4 large exchanges. There are reasonable methods to determine a price at a particular time. The US tax code has never been exactly applied in the same way, in terms of prices, by all individuals. Eg, in real estate one must determine a basis based on land, square footage considerations, and so on, and there are multiple methods of doing it, which yield different numbers. One must only show that the calculation was reasonable, and one must be consistent (not apply 1 method in a particular year and a different method in another year).

In my view, the basis should be the fair market value at the time that the forked coins are claimed, which also establishes the date. However, does that mean that one receives "free" value at that time? If looking at the tax code regarding basis when property is transferred, the basis carries forward from the giver to the receiver. If the giver purchased it at a previous time, that establishes the basis. But in hard forks, new value is created in a real sense. Therefore it should be taxable? So I imagine the best way to consider it is that it is taxed as ordinary income at the time it was claimed, and then an additional capital gain or loss when it is later sold.

The above is based on my understanding of the tax code, not how I think it should be. Many taxes decrease economic activity, such as taxes on the improved value of real estate and increased taxes at higher income tax levels, which leads to poverty and worse outcomes for all involved. Similarly taxes on cryptocurrency disincentivizes the entire space and reduces liquidity, which means increased volatility and lower uptake, which delays dramatic improvements in standard of living and reduction of poverty. Whereas a land value tax would not disincentivize investment and would lead to a much more prosperous country.

Estimates are that 1 trillion hours are spent on persons doing their taxes each year. Simplifying the tax code would result in a dramatic improvement just based on saving all this time, every year.

[rehydrogenated]

My guess is the IRS will follow policies ideas they will borrow from the stock market. The IRS could 1) Treat forks like stock splits, 2)Treat forks like a merger or 3) Treat forks like a reverse merger

1) Treat forks like stock splits - When a stock splits you get a ratio (usually 2:1). If you held 100 shares prior to the split, now you have 200 shares and your cost-basis remains the same. This makes since to me as a way to calculate the cost-basis of PoS coins or tokens. It works the same as dividends paid in stock. Crypto Example: You own 400 "XYZ" Coins with a basis of $250 per coin (total basis of $100,000). You earned 40 additional XYZ coin from staking and now own a total of 440 XYZ. Your total basis is unchanged, so your basis per share is now $100,000 divided by 440, or $227.28. Clearly, this doesn't make sense for a fork, since there is a "new" coin created. But its important to understand stock splits to understand mergers.

2)Treat forks like a merger - Imagine you own company/coin A and it merges with company/coin B and all your company/coin A shares become company/coin B shares. You can look up what the terms below mean and how to calculate them, but for the purpose of discussing forks the details will bog everything down too much.

To calculate your cost basis you need to know:
a) Your original cost basis for company/Coin A  
b) The taxable gain (or loss) "realized" in the merger/fork taking into account any cash received No forks to date have had a cash payout
c) The taxable gain (or loss) recognized in the merger/fork
d) The total basis in the new company B stock/coin
e) The gain/loss on fractional shares

But here we have a problem too. A "merger" isn't happening when we are looking at forks. The action looks most closely like a reverse merger, which is much rarer and is one of the most common ways for large companies to defer taxes. It may be possible to defer taxes using strategies similar to reverse merger tax strategies.

3) Treat forks like a reverse merger - I actually ran out of time researching this one because reverse mergers are so convoluted (to me anyway). I'll be back with an edit soon! Stay tuned!