For years, the IRS has taken some of the crypto mining revenue from all US taxpayers. But one company is now trying to help crypto miners shield mining profits from taxes by having them settled within an individual retirement account, or IRA. However, tax experts doubt whether the agreement with the IRS will pass.
When a person digs for virtual coins, the proceeds are typically classified as income by the U.S. government and are therefore subject to income tax.
But not everyone has enough money in the bank to cover that crypto tax bill. Some actually have to sell their mined coins for dollars to cover the tax that then triggers capital gains taxes when the bitcoins have appreciated in value since they were first mined.
“American Bitcoin miners are subject to double taxation,” said Ryan Radloff, CEO of IRA custodian Kingdom Trust, which offers the Choice IRA. Choice is specifically aimed at savers looking to add crypto assets to their bond portfolio.
Mining coin in an IRA
Radloff partnered with hosting company Compass Mining this week to offer customers an account that allows them to mine bitcoins directly to their IRAs.
The process is relatively straightforward.
A customer must first purchase mining hardware using assets within their IRA. Radloff tells CNBC that devices on offer range from $ 5,000 to $ 10,000. Compass handles the logistics, from delivering these machines to data centers to configuring and monitoring the equipment.
While the compass miners mainly generate Bitcoin, they also provide some Litecoin and Zcash machines.
“After the miner is in the IRA, the newly generated bitcoins are treated like rental income or stock dividends from assets you own in your IRA – which means they don’t count towards your contribution,” argued Radloff.
Radloff says that if customers later choose to sell, capital gains taxes will be deferred or eliminated entirely when done within the IRA.
“They don’t get access to rental income, they just go straight to the self-directed IRA,” explained Shehan Chandrasekera, CPA and head of tax strategy at CoinTracker.io, a digital currency software company that helps customers both track their cryptos through virtual ones Wallet addresses and manage their respective tax obligations.
Not everyone is convinced
But not everyone is convinced that the IRS will accept the agreement.
“There are certain prohibited transactions within an IRA,” said Lewis Taub, CPA and director of tax services at Berkowitz Pollack Brant, one of the largest accounting firms in Florida. “One of them is the provision of goods and services between the owner and the IRA plan. The IRS could most likely argue that this facility is a prohibited transaction,” Taub said.
The income from investing your IRA funds in cryptocurrency mines may be subject to independent business tax if mining is considered a business or active trade.
In addition, Taub sees other disadvantages of the proposed system. Because the value of Bitcoin has been volatile in the past, individuals must have a high tolerance for risk – or an unwavering belief that the value of coins mined between the time they are mined and the time they are mined will be allowed to receive withdrawals faster than inflation will rise.
“Assuming this is a legitimate transaction at the moment, the person will lose use of the asset’s value … because distributions from an IRA cannot be impunity until the owner reaches 59.5.”
Taub also notes that the IRS allows miners who are considered entrepreneurs to make business deductions to reduce taxable income from mining, but that those deductions are not available in an IRA. “There is no tax regulation that would allow these deductions within an IRA,” he said.
While Taub wouldn’t advise any of his crypto customers to get involved, Chandrasekera says reviews like this one are conservative and assume the worst-case scenario.
“This is nothing new, to be honest,” argues Chandrasekera. “It’s just another way of making income with a self-managed IRA account because the advantage is that you are not making any income. You only save for retirement. “