Bitcoin wallet catching up

On March 25, 2014, the Internal Revenue Service (IRS) released Notice 2014-21 clarifying its position regarding the taxation of virtual currencies such as Bitcoin, Litecoin, and Dogecoin. In summary, the IRS will treat virtual currencies as property, not currency, and therefore any gains realized on virtual currency transactions could constitute taxable income. In addition, transactions in virtual currencies may be subject to information reporting requirements, frustrating those who want Bitcoin to remain free from government interference.

Background

The rules in Notice 2014-21 apply to all “convertible virtual currencies, ” with Bitcoin specifically given as an example. This article focuses on Bitcoin, however the rules apply in the same way to all other convertible virtual currencies.

Bitcoin is a virtual currency (also referred to as a digital or crypto currency) that operates without the need for a central bank and is not backed by any physical commodities. The Bitcoin system is maintained by “miners” who use computer power to process transactions and keep the network secure. The transactions are added to the Bitcoin “Block Chain” and miners are rewarded with 25 Bitcoins per Block added to the Block Chain. A Block is added to the Block Chain roughly once every ten minutes. The reward will decrease over time until all 21 million Bitcoins are in circulation which will be around the year 2140. Currently there are around 12, 700, 000 Bitcoins in circulation. This cap on the number of coins, together with the gradually decreasing reward for mining, is designed to limit inflationary effects on the price. Once a Bitcoin has been mined it can be traded through peer-to-peer technology to other users who receive the transaction in a digital Bitcoin wallet.