Internal Revenue Service (IRS) Commissioner Charles Rettig told Sen. Maggie Hassan, D-N.H., in late December that the IRS needs more money and changes to the tax code to better prevent and prosecute criminal uses of cryptocurrency, which has emerged in recent years as a favored medium of exchange involving ransomware and other cyber attacks.
Rettig’s Dec. 21 letter to Sen. Hassan responds to a query from the senator in September to the IRS and other Federal agencies to crack down on “current aspects of the cryptocurrency market that allow for criminal usage” of the virtual currency. The senator addressed similar questions to the Departments of Justice, Homeland Security, and Treasury, and to the Securities and Exchange Commission.
Her request followed a cyberattack in August 2021 on the town of Peterborough, N.H., resulting in the theft of $2.3 million. The stolen money was converted into cryptocurrency, “rendering it nearly impossible to recover,” the senator said.
The IRS’s response, the senator said, should cover how beefing up disclosure rules for buying and selling cryptocurrencies, and “requiring additional information for customers using cryptocurrency exchanges – similar to what is currently used at traditional banks – could help prevent future cyberattacks.”
“Cyberattacks like the one we saw in Peterborough last summer are not an anomaly, they are our new reality,” the senator said. “We must make sure that state and local governments have the tools and resources they need to prevent such cybercriminals from gaining access to our online systems and taxpayer dollars.”
“I look forward to working in Congress and with the administration to crack down on criminals who seek to use cryptocurrency to hide illicit activity,” she said.
Private Sector Filling the Gap
As cryptocurrency continues to mature and take greater hold in the economy, private sector firms are stepping in to fill some of the gaps identified in the exchange between IRS and Sen. Hassan.
“The evolving requirements for the government to understand who’s-who in the crypto – and further to provide an easy way for citizens and businesses to file their crypto taxes – is a huge step forward and a legitimizing requirement as crypto becomes a mainstay of our U.S. and global economy,” said Nathan Jones, SVP and GM of Worldwide Public Sector Sales and Government Affairs, at TaxBit.
“We’ve developed the TaxBit Network that integrates data from across 500-plus crypto exchange, DeFi, and NFT platforms. So, TaxBit is in a unique position to partner with the government as America puts in place the next phase of our crypto infrastructure,” he said.
“The government doesn’t need to build a crypto management infrastructure – that will cost a lot of money and slow down the government’s ability to act,” Jones said. “It can leverage near-real-time asset reporting best practices. It’s really about using the best available commercial networks.”
“TaxBit just opened our office in government to support the Federal government — and we’re excited to build on our existing partnership with the IRS, our strong working relationship with the crypto-financial community, and the U.S. financial regulators,” he said.
FY 2022 Funding Request
Rettig’s Dec. 21 letter responds to Sen. Hassan’s Sept. 16 request for information about the IRS’ current authority to conduct compliance activities related to virtual currency. The IRS commissioner offered to meet the senator and her staff to discuss the issue further.
“The use of virtual currencies is a rapidly evolving and expanding industry,” Rettig told the senator. “We share your concern that virtual currencies can be used to evade compliance, and that the anonymous nature of virtual currencies may make them attractive for those who would engage in illicit activities.”
Among other help needed by the IRS in preventing the criminal use of cryptocurrency is more funding to tackle that task, the agency said.
The Biden administration’s FY2022 budget request for IRS features $21 million “to support cyber, cryptocurrency and other highly technical investigations” that will play an important role in increasing the agency’s criminal investigation law enforcement capabilities, IRS told Sen. Hassan.
Conducting examinations of money service businesses (MSBs) – including cryptocurrency exchanges and kiosks, and over-the-counter cryptocurrency trading desks – regarding their compliance with requirements of the Bank Secrecy Act (BSA) “is an inherently laborious activity,” IRS said.
“While technology and burden-sharing among states and with the federal government are helpful, BSA examiners need reinforcements to conduct more examinations of both traditional and digital asset MSBs, especially money transmitter principals,” IRS said. “Increased funding for personnel and expenses, such as travel and analytical tools, is also necessary to supervise MSBs,” the agency said.
Beyond funding, IRS suggested new rules requiring the mandatory e-filing of Form 8300 to report cash payments exceeding $10,000, and the expansion of those requirements to “digital assets.” It said the Biden administration proposed legislation for e-filing last year, and that the Treasury Department has worked up proposed regulations to that effect.
IRS also suggested rule changes that would increase due diligence procedures required of MSBs on high-volume customers, or more fully implementing “know your customer” rules on the MSBs. Doing so, IRS said, “is likely to decrease the volume of suspicious transactions,” and provide a stronger Suspicious Activity Report (SAR) program for MSBs.
“A stronger SAR program should, in turn, enhance recovery of stolen or embezzled funds or even prevent such crimes in the first place,” IRS said.
Currently, the IRS can pursue criminal investigations against MSB organizations for matters involving violations of Federal tax, money laundering, and bank secrecy laws. From Fiscal Year 2018 to FY 2021, IRS undertook 243 cases involving virtual currency, and referred 183 of those for prosecution, resulting in the seizure of $3.8 billion of virtual currency.
Other New Authorities
Asked by Sen. Hassan whether new authorities would help IRS to prevent and prosecute criminal use of cryptocurrency, the agency responded that existing civil penalties can be applied for failure to report income derived from cryptocurrency and that criminal penalties can be applied both to “illicit money-transmitting businesses engaged in the use of both crypto and fiat currencies.”
“Enhancements to these civil and criminal penalties for egregious behavior in the cryptocurrency space could also be applied to promote voluntary compliance,” IRS said.
Crypto Broker Reporting Requirements
According to Rettig’s response to Sen. Hassan, the $1 trillion infrastructure investment bill signed by President Biden last November includes additional authorities for the Treasury Department to implement broker information reporting requirements related to cryptocurrency assets.
Not included in that bill – but recommended by the Treasury Department – is a measure IRS said would be “helpful” to it: one requiring reporting on some “beneficial owners” of entities holding accounts with U.S. brokers.
“This proposal,” IRS told Sen. Hassan, “would allow the United States to exchange such information on an automatic basis with appropriate partner jurisdictions. A global automatic exchange of information framework would provide the United States with information on U.S. taxpayers who directly or through passive entities engage in crypto-asset transactions outside the United States.”
Recent Regulatory Help
IRS cited the Corporate Transparency Act (CTA) enacted in early 2021 as helpful to the cause of creating requirements for beneficial ownership of cryptocurrency. The CTA aims to prevent the use of shell companies to evade anti-money laundering and economic sanctions laws and requires some entities to provide ownership data to the Treasury Department’s Financial Crimes Enforcement Network (FinCEN).
“The collection of this information will generate a database that is highly useful to national security, intelligence, and law enforcement agencies, as well as federal functional regulators, including the IRS,” the agency told Sen. Hassan. “The CTA provides that relevant federal agencies shall, to the extent practicable, and consistent with applicable legal protections, cooperate with and provide information requested by FinCEN to maintain this database of beneficial ownership information.”
IRS explained that it collects beneficial ownership data from taxpayer forms. But, it said, while the CTA allows beneficial ownership information to be provided to the IRS for tax administration purposes, the IRS code currently prohibits the agency from granting FinCEN access to the IRS’s beneficial ownership and responsible party information.
Current IRS Authorities
Rettig said his agency’s current authorities include examinations of non-banking financial institutions – including MSBs regarding their compliance with requirements of the Bank Secrecy Act (BSA). Authority for the IRS to do so flows from FinCEN.
Rettig said IRS examinations of MSB organizations focus on the development and implementation of anti-money laundering (AML) programs; registration of MSBs with FinCEN; filing current transaction reports (CTRs) and suspicious activity reports; and obtaining and maintaining certain records.
Customer Identification Requirements
While MSB organizations are required to have a SAR program and verify customer identification for CTR reporting and recordkeeping of transactions exceeding $3,000, the Bank Secrecy Act does not require MSBs to implement “know your customer” programs, the IRS said in its response to Sen. Hassan.
For their part, IRS said its BSA examiners “analyze the transactions to identify suspicious activities and determine whether the MSB has an adequate SAR program that requires identifying a business purpose for the transactions and a legitimate source of funds.” If MSB organizations fall short of requirements, IRS has the authority to issue them violation letters and refer “egregious violations” to FinCEN.