On March 28th, 2022, the Department of Treasury issued the 2023 Fiscal Year Revenue Proposal (The Green book) outlining a number of proposed tax policies designed to increase revenues, improve tax administration, and make the tax system more equitable and efficient. The proposal had several key policies that will have a direct impact on crypto taxpayers if adapted as proposed.
Tax Policy Changes Targeted Towards High-income Taxpayers
The proposal has three major tax policy changes focused on high income earner in the US. First, the treasury wants the highest marginal income tax rate to increase from 37% to 39.6% effective December 31, 2022. This increased marginal rate would apply to taxable income over $450,00 for married filers and $400,000 for individual filers. If your total taxable income is above these thresholds, your short-term cryptocurrency gains (coins & NFTs sold after holding them for less than 12 months) and other types of crypto income such as staking, mining & interest would be subject to this higher rate.
Second, the proposal is planning to subject long-term capital gains (which are generally subject to a lower tax rate than ordinary income tax rate) to a higher tax rate for taxpayers with over 1 million of taxable income. For example, if your overall taxable income is over 1 million, long-term gains in excess of 1 million would be subject to a much higher ordinary income tax rate vs the maximum 20% rate under the current law. Furthermore, the proposal aims to make transfers of appreciated property as gift and at death as taxable events for wealthy individuals.
Third and arguably the most aggressive tax proposal included in the document is the 20% minimum tax on “Total income” for taxpayer’s worth over 100 million. Total income includes regular taxable income such as wages and investment income and surprisingly unrealized capital gains on assets you own.
Specific Policy Changes For Digital Assets
The proposal includes four digital assets specific tax policy changes. Let’s first go through the three policies that have a direct impact on taxpayers.
The first proposal talks about cryptocurrency lending activity which has expanded rapidly over the past several years. The treasury aims to make cryptocurrency-based loans tax-free similar to loans based on stocks & securities, as a long as certain criteria is met. This is good news for taxpayers who are involved in lending activity.
Certain specified financial assets (foreign bank accounts, brokerages, etc.) held by US individuals in foreign countries have been subject to IRS reporting for many years. To comply with the rules, US taxpayers with foreign accounts in excess of $50,000 are required to file a Form 8938 (Statement of Specified Foreign Financial Assets) disclosing various information about those assets. Whether digital assets held in overseas exchanges are subject to Form 8938 reporting has been a grey area for several years. The treasury proposal finally adds clarity to this lingering question and want to subject digitals assets to Form 8939 reporting.
The next digital asset-specific tax policy change involves day traders of cryptocurrency. Section 475(f) tax election has been a taxpayer-friendly election active day traders of stocks have been enjoying for many years. When this election is properly made, day traders can mark-to-market their positions at year end and treat gains and losses as ordinary income. This allows them to deduct unlimited amounts of losses and override the $3,000 annual cap on capital loss deduction other taxpayers are subject to. If we strictly follow the current law, this favorable tax election is only applicable to stocks and commodity traders. The treasury has clearly identified the growth of crypto markets and proposed to extend this favorable election to active digital asset traders. This is another positive policy change.
The final proposal related to cryptocurrency is aimed at US cryptocurrency exchanges. To effectively combat offshore tax evasion, the US tax regulators heavily rely on information shared by foreign financial institutions and governments on financial accounts owned by US individuals in foreign countries. The success of this system heavily depends on reciprocity. In simple terms, the US must share information about US financial accounts owned by foreign individuals to those respective countries; Foreign countries must report to the US when US individuals hold financial accounts in foreign countries. This continuous information sharing enables regulators to catch bad actors using offshore strategies to evade taxes.
To strengthen reciprocity when it comes to crypto-related information sharing, the treasury would require US digital asset exchanges to report account balance for all financial accounts maintained at a US office held by a foreign person to the IRS.
“This would allow the United States to share such information on an automatic basis with appropriate partner jurisdictions, in order to reciprocally receive information on U.S. taxpayers”
All aforementioned proposals would be effective after December 31, 2022, except the rule that mandates US exchanges to report foreign account holder information, which is planned to be effective after December 31, 2023. According to treasury estimates, these digital assets specific rules will raise approximately 11 billion in tax revenue between 2023 and 2032.
Monitor how the proposed rules are processed through the legislative process in the coming months.