US IRS Faces New Lawsuit Over Crypto Staking Tax Policy

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As a seasoned researcher with a keen interest in the intersection of technology and finance, I find myself closely following the ongoing saga between the IRS and the taxation of cryptocurrency staking rewards. Having delved into this complex issue before, I can’t help but feel a sense of deja vu as Josh Jarrett files another lawsuit against the IRS.

Once more, the United States Internal Revenue Service (IRS) faces legal scrutiny over the taxation of cryptocurrency staking rewards. On October 10, 2024, Josh Jarrett, backed by Coin Center, filed a fresh lawsuit contesting the IRS’s practice of treating block rewards as income upon receipt.

US IRS Faces New Lawsuit Over Crypto Staking Tax

On Thursday, the Internal Revenue Service (IRS) has been brought into focus due to its stance on block rewards – newly created tokens of a cryptocurrency that are given to validators for adding blocks to a blockchain. The IRS currently classifies these rewards as taxable income when they are received, a viewpoint that Jarrett and Coin Center argue is unfair.

The legal claim argues that block rewards are fresh assets, and therefore they shouldn’t be subjected to taxation as earnings. Instead, taxes would apply only when these assets are either sold or traded for cash.

Jarrett proposes that the same principle should extend to other types of freshly produced assets, such as crops or minerals, which are taxed only upon sale. The lawsuit claims that imposing taxes on staking rewards prior to their sale results in excessive taxation and unnecessarily increases regulatory burdens for operators of cryptocurrency nodes.

Previous Attempts to Challenge Policy

In this instance, Jarrett is taking legal action for a second time, aiming to challenge the IRS’s stance on taxing staking rewards. He had previously filed a similar lawsuit in 2021 when the IRS neglected to clarify how these rewards are subject to taxation. However, despite issuing a refund for his previous year’s taxes, the US IRS did not provide guidance for future tax years.

In 2023, the agency issued revised rules indicating that earning staking rewards would now be classified as income upon receipt, contrasting with the previous classification of returns as refunds.

Jarrett uses the Tezos network, where validators receive new Tezos tokens for verifying transactions. By December 2020, he had earned approximately 13,000 Tezos tokens through staking. He clarifies that these tokens should not be classified as income at the time they are received, since they represent newly acquired property and aren’t considered earnings until they are sold.

In simpler terms, the way the Internal Revenue Service handles taxation on staking rewards in cryptocurrencies like Bitcoin and Tezos significantly impacts many users. The legal dispute highlights that this policy can be complicated for taxpayers, as they must value each reward received according to the policy, regardless of whether or not they intend to sell it.

Legislative Efforts and IRS Policy Changes

It has been pointed out that this approach could potentially suppress competition and delay the expansion of decentralized networks by limiting innovation. In staking-intensive networks, the earnings from staking are distributed among multiple stakeholders, making it less equitable to impose taxes on the entire value of freshly minted tokens as income.

At present, this action is taken amid ongoing discussions about the suitable legal structure for taxing digital currencies. In the early part of 2024, a bill submitted to the House of Representatives suggested that taxes on staking rewards would be imposed only when the tokens are subsequently traded or sold.

The lawsuit aims to persuade the U.S. IRS to modify its current policy, with the hope that the changes made will be more fair and acceptable within the legislative framework prior to any formal legislation.

Beyond 2025, crypto brokers such as exchanges and providers of digital wallets will face new requirements to report customer transactions and gains to the Internal Revenue Service. This includes high-value non-fungible tokens (NFTs) and certain stablecoin transactions, thus expanding the taxation scope for digital asset transactions.

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2024-10-11 00:22