IRS Form 1099-DA: Unveils Crypto Reporting Requirements, Raising Concerns

The IRS released a draft 1099-DA form for crypto reporting, sparking criticism from industry experts. The form requires brokers to report on unhosted wallets, raising privacy concerns. The IRS also asks for on-chain data, such as transaction IDs and wallet addresses, leading to further debate over the potential impact on end users and brokers.

IRS's Proposed Form 1099-DA: A Comprehensive Analysis of its Implications for Crypto

On April 19th, the Internal Revenue Service (IRS) released a draft version of its Form 1099-DA, a reporting form that aims to enhance transparency in cryptocurrency transactions. However, the form's inclusion of unhosted crypto wallets has sparked controversy, raising concerns among industry experts and stakeholders.

Criticism of the Form

Ji Kim, Chief Legal and Policy Officer at the Crypto Council for Innovation, expressed concerns that the IRS's approach "is unfortunate" as it fails to recognize the limited knowledge that unhosted wallet providers have about crypto transactions and the parties involved. Similarly, Shehan Chandrasekera, Head of Tax at CoinTracker, argued that the form's effects could spill over to end users, as they may be required to engage in KYC verification when creating or using unhosted wallets with services like DeFi platforms.

Chandrasekera further emphasized that authorities will likely focus their enforcement efforts on unhosted wallet providers rather than end users. Unhosted or non-custodial wallets, unlike custodial wallets like those offered by exchanges, do not store crypto balances with third-party services.

Requirements for Brokers

Form 1099-DA requires brokers to provide certain on-chain data, including transaction IDs and wallet addresses related to each sale. Brokers must report the transaction ID and address originating the sold crypto, as well as a secondary address if the funds were "transferred in" from another of their hosted wallet addresses.

Experts have expressed varying opinions on these requirements. Chandrasekera warned that collecting and reporting data, particularly wallet addresses, "could lead to major privacy and security concerns." However, Jessalyn Dean, Ledgible's VP of Tax Information Reporting, noted an exception to the rule. She explained that the form allows brokers to omit wallet addresses and transaction IDs if not applicable. She deemed this exception "necessary" because brokers often perform transactions internally rather than on-chain.

Another critical section reads, "Wash sale loss disallowed." According to Dean, this does not bring crypto under wash sale rules. Instead, the section applies to digital assets currently subject to wash sale rules, such as stock, securities, and tokenized equities.

Ongoing Development

Crypto brokerage reporting rules have been in the making for several years. President Joe Biden's Infrastructure Act in 2021 classified certain crypto services as brokers, and in August 2023, the Treasury and the IRS proposed a 1099-DA form that largely resembles the current draft version.

However, the draft form indicates that the IRS has not yet finalized it and that brokers should not use it in their current tax reports. Ledgible has reported that there is a 60-day comment period for feedback on the form.

Separate Rules for Individual Investors

The IRS has also established specific rules for individual crypto investors. The agency issued a reminder on April 11th that crypto investors should report their holdings on various forms, including Form 1040. A high-ranking IRS official recently warned of tax avoidance among crypto investors.

Conclusion

The IRS's proposed Form 1099-DA has ignited a debate within the crypto community. While the form aims to enhance transparency and combat tax evasion, concerns have been raised regarding its potential impact on privacy, security, and the disproportionate burden it may place on unhosted wallet providers. As the form undergoes further development and refinement, it remains crucial for stakeholders to provide feedback and engage in constructive dialogue with the IRS to ensure a balanced and effective reporting system.