Instructions in a recent draft update to Form 1040 are inconsistent with how IRS guidance defines “virtual currency” and should be fixed, the American Institute of Certified Public Accountants said in a letter dated August 29.
More-detailed language should be inserted in the main U.S. individual income tax return for the 2022 tax year, to clarify wording contained in a proposed revision to Form 1040 released by the IRS on July 27, AICPA told the IRS and the Treasury Department in its letter. As written, the draft differs significantly from the definition used in other formal IRS guidance, specifically Rev Rul 2019-24 and Notice 2014-21, according to the accounting body.
It recommended that the IRS modify the definition of “virtual currency” as described in the first paragraph of the draft Form 1040 to align it with the guidance, which is binding on the agency. “Thus, consistent with Notice 2014-21,4 the definition in the instructions should state that IRS uses the term ‘virtual currency’ to refer only to convertible virtual currency. Additionally, examples of convertible virtual currency should be included in the Form 1040 instructions,” the letter stated.
The Form 1040 draft changed the wording of a question that was introduced for the 2019 tax season regarding cryptocurrency to ask taxpayers whether, during 2022, they received, as a reward, award, or compensation, or sold, exchanged, gave, or otherwise disposed of a “digital asset,” or a financial interest in such an asset. (See The Long Read: Catching Up With Crypto, 04/29/2022)
The 2021 Form 1040 instructions and the first of a series of frequently asked questions accompanying the form state that an asset with the characteristics of virtual currency is treated as virtual currency, creating confusion for taxpayers, AICPA said. It recommended that the phrase be removed.
“These characteristics are not listed or defined anywhere, and this phrase is not used in the binding guidance on virtual currency,” the group’s letter read. “This statement can be interpreted to imply that the Form 1040 question also applies to a nonconvertible virtual currency. Given the clear statement in Notice 2014-21 that ‘virtual currency’ means convertible virtual currency, that implication is incorrect.”
AICPA also suggested it wasn’t clear from the draft Form 1040 instructions whether nonfungible tokens are considered virtual assets that must be disclosed on the return.
While NFTs don’t appear to be a unit of account, they appear to be a store of value, the letter stated. It noted that since Rev Rul 2019-24 requires an asset to be both a unit of account and a store of value—and a medium of exchange—an NFT isn’t a virtual currency per that definition. “However, the Form 1040 instructions use the term ‘or,’ so an NFT appears to be covered by the Form 1040 question since it likely is a store of value,” AICPA said.
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