A digital asset tax expert and an IRS official advised practitioners to consider their options presented in recent guidance that lets digital asset holders move unused basis between wallets and accounts before new reporting requirements take effect next year.
Reg roundup
“I think we all admit that this is a fast moving, complicated area of asset diversification,” said IRS Director of Compliance and Implementation at the Office of Digital Asset Initiative Sulolit “Raj” Mukherjee. “This is a global issue for all governments.”
Mukherjee and Forvis Mazars Senior Manager Nik Fahrer spoke November 12 at the American Institute of Certified Public Accountants National Tax Conference, covering key components of the massive guidance suite issued by the IRS in June on various digital asset transaction reporting rules.
The package included over 360 pages of final regs first proposed in August 2023. Some reporting rules apply to transactions occurring on or after January 1, 2025, like the requirement that brokers report gross proceeds. On January 1, 2026, brokers must start reporting digital asset basis for applicable transactions.
Accompanying the regs and a pair of notices (Notice 2024-56 and Notice 2024-57) that provide interim guidance is Rev Proc 2024-28. The revenue procedure provides a safe harbor under Code Sec. 1012(c)(1) allowing taxpayers to allocate unused basis of digital assets to other digital assets held within each of their wallets or accounts as of January 1, 2025. (For more on the regs and supplemental guidance, see IRS Official Speaks on Final Digital Asset Regs.)
2024 safe harbor
Fahrer explained that the purpose of the safe harbor is to provide taxpayers time to “convert to transition from the universal method to a wallet-by-wallet or account-by-account method” before the end of calendar year 2024. The universal method, he continued, accounts for digital assets based on date regardless of where they are held.
He gave the example of a taxpayer who has digital asset activity across five sources, including accounts with multiple exchanges and their own self-operated wallet. This taxpayer, under the universal method, uses a third-party crypto accounting software to manage these different sources. Many crypto accounting tools “by default” often “mash” information from all sources into one column and sort using the first in, first out (or FIFO) accounting principle.
“So it didn’t matter if you sold your cost basis out of Wallet One,” Fahrer said. “The software may have taken it out of Wallet Three, so it wasn’t exactly matching it up 1:1.” The final regs do away with the universal method starting 2025. “The IRS understood that this was happening and says: ‘We don’t agree with this [but] we want to, however, give taxpayers the option to transition'” before January.
Two allocation methods
The panel advised practitioners with digital asset clients to consider ways to “reduce the administrative burden of this revenue procedure.” One option under the “global allocation” method illustrated in the revenue procedure would be to tell clients to move their unused basis “into as few wallets and accounts as possible” by New Year’s Eve, Fahrer recommended. Perhaps “they can even reduce it down to just one.”
Doing so would not only comply with the safe harbor, but also ease the administrative burden next year since “taxpayers have to use a wallet-by-wallet method anyway,” he added. “This an asset-by-asset allocation, so if your client has multiple wallets and multiple assets, they need to perform this calculation for every single asset as well.”
The other allocation method in the revenue procedure is the “specific allocation method,” which “effectively allows taxpayers to be more strategic and specifically allocate where they want their unused basis to go,” Fahrer said. Timing and order of operations are important with the specific allocation method, as taxpayers need to make sure allocations are done before January 1, 2025, or the due date of the tax return in which the taxable year includes that date, he continued.
Conversely, as Mukherjee clarified, if a taxpayer does not “technically dispose of or perform a sale until after” January 1, this “gives them a little bit more time” for 2025 purposes.
In Fahrer’s opinion, the global allocation method is the less burdensome of the two since the intent “was so that practitioners like us don’t have to be up at midnight on New Year’s Eve trying to do these calculations.”
IRS scrutiny
An area where the IRS could offer additional guidance is in situations where a taxpayer did not previously use the universal method but still wants protection from the same harbor, according to Fahrer.
He warned that the Criminal Investigation Unit “continues to see an uptick in cases, and the IRS is emphasizing digital asset compliance enforcement. The number of prosecutions and the amount of seized assets are on the rise,” said Fahrer. Because of this increase in audit and investigative activity, the safe harbor is an opportunity for digital asset holders to whom the revenue procedure applies to act now and prioritize documentation.
From the IRS’ perspective, keeping up with this “evolving area” isn’t easy for the agency, either, Mukherjee said. “[B]y the time the regulation is completed stating its position on an asset, there are 15 iterations that are very different. We also understand it’s complicated for you as well, so please keep us engaged.”
For more on digital asset basis, see Checkpoint’s Federal Tax Coordinator ¶ P-1181.
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