Published: June 29, 2021
Last Updated: October 25, 2021
Introduction – Biden’s Tax-Compliance Agenda Includes Mandatory Reporting by Cryptocurrency Exchanges about Account Holders
In May 2021, the US Department of the Treasury released a report describing the tax-compliance initiatives forming a part of US President Joe Biden’s American Families Plan. The report reveals that the Biden Administration certainly appreciates that cryptocurrency “poses a significant detection problem by facilitating illegal activity broadly including tax evasion.” In response, the President’s tax-compliance agenda proposes a new third-party reporting regime, which leverages the “information that financial institutions already collect to shed light on those taxpayers who misreport income derived from opaque sources.”
The new reporting regime will build on current information returns, like Form 1099-INT, which reports to the Internal Revenue Service (IRS) each US taxpayer who received at least $10 in interest from a bank, brokerage, or other financial institution. Under the new regime, financial institutions would “report additional data on the financial accounts of these existing information returns.” In particular, financial institutions, including “foreign financial institutions and crypto asset exchanges and custodians,” must file an annual return reporting “gross inflows and outflows on all business and personal accounts… including bank, loan, and investment accounts.” Moreover, the new financial-account reporting regime will cover “cryptocurrencies,” “cryptoasset exchange accounts,” “payment service accounts that accept cryptocurrencies,” and “business that receive cryptoassets with a fair market value of more than $10,000.”
Although the Treasury report doesn’t go into specifics, the new financial-reporting obligation will likely save the Internal Revenue Service the hassle of prying this information from cryptocurrency exchanges, one by one—the approach that the IRS has taken to date. On March 30, 2021, for instance, the Internal Revenue Service obtained a court order requiring the San Francisco-based cryptocurrency exchange, Kraken, to surrender information about account holders with at least $20,000 in cryptocurrency transactions during the period from January 1, 2016, to December 31, 2020. Two days later, the IRS obtained a similar court order against the Boston-based cryptocurrency exchange, Circle Internet Financial Inc. and on its spinout company, Poloniex LLC. And in 2017, the IRS hit virtual-currency exchange, Coinbase, with a similar demand. A nation-wide reporting requirement obviously permits the Internal Revenue Service to identify non-compliant cryptocurrency users without blowing its budget on litigation against individual cryptocurrency exchanges.
How Cryptocurrency-Information Reporting in the United States Could Spell Trouble for Canadians with Unreported Cryptocurrency Income
Many Canadian cryptocurrency traders and investors hold accounts with US-based cryptocurrency exchanges. Some cryptocurrency users even shy away from Canadian-based cryptocurrency exchanges because they view Canadian exchanges as less trustworthy—a stigma that probably traces back to the Ontario Securities Commission’s finding that QuadrigaCX, once thought to be Canada’s largest cryptocurrency exchange, was nothing more than a Ponzi scheme.
Cryptocurrency-information reporting in the United States should alarm Canadian taxpayers who use US-based cryptocurrency exchanges and failed to report cryptocurrency profits or holdings on their Canadian income-tax returns. There are at least two reasons why.
First, Canada and the US have long committed to sharing taxpayer information for tax-enforcement purposes. The CRA and the IRS mutually exchange taxpayer information by virtue of their participation in the Canada-US Tax Treaty. Article XXVII of the Treaty obligates the two countries to exchange any information that may be relevant to enforcing either country’s domestic tax laws. Moreover, in the summer of 2018, an international coalition of tax administrators—including the Canada Revenue Agency and the United States Internal Revenue Service—promised to pool their resources and expose cryptocurrency users who dodged their tax obligations. The project seeks to uncover unreported income and assets stemming from holdings in Bitcoin SV (BSV), Tether (USDT), Monero (XMR), EOS, Binance Coin (BNB), and other cryptocurrencies, such as Facebook’s soon-to-be-released Diem (formerly called Libra). As a result, after extracting taxpayer information from the new cryptocurrency-reporting regime, the Internal Revenue Service will likely share its findings with the CRA, thereby allowing the Canada Revenue Agency to identify, audit, and prosecute Canadian cryptocurrency traders and investors who attempted to dodge Canadian tax obligations by using US-based cryptocurrency exchanges.
Second, if cryptocurrency-information reporting proves fruitful for tax collection in the US, Canada’s Parliament will likely follow suite. Indeed, the IRS has already inspired the Canada Revenue Agency to pry taxpayer records out of cryptocurrency exchanges. Mirroring the IRS’s blitz on the US-based cryptocurrency exchanges Circle Internet Financial, Poloniex, Coinbase, and Kraken, the CRA obtained a Federal Court order requiring the Canadian cryptocurrency exchange Coinsquare to identify all Canadian customers that held cryptocurrency accounts with a value of $20,000 or more during the period from 2014 to 2020 or that held cryptocurrency accounts with total deposits over $20,000 since the account’s creation. In the same way that Canadian tax administrators have been influenced by the tactics of their US counterparts, the Canadian government might adopt measures that resemble the Biden Administration’s cryptocurrency-reporting requirement. This, of course, should worry all Canadian taxpayers with unreported cryptocurrency income, not just those using US-based cryptocurrency exchanges.
First Steps Toward an International Tax-Reporting Regime for Cryptocurrency Exchanges
Indeed, Canada has already imposed cryptocurrency-reporting obligations on domestic and foreign cryptocurrency exchanges under Canada’s Proceeds of Crime (Money Laundering) and Terrorist Financing Act. On June 1, 2021, substantial regulatory amendments created new virtual-currency reporting obligations for all reporting entities under the Proceeds of Crime (Money Laundering) and Terrorist Financing Act.
This legislation had already required various entities (including accountants, casinos, banks, insurance companies, and money-services businesses) to report certain cash transactions and electronic transfers to the Financial Transactions and Reports Analysis Centre of Canada (FINTRAC). But as of June 1st, all reporting entities must now keep records and file FINTRAC reports for “large virtual currency transactions.”
In particular, each reporting entity must maintain a “large virtual currency transaction record” for amounts received in cryptocurrency of C$10,000 or more in a single transaction, or across multiple virtual currency transactions that total C$10,000 or more within a span of 24 hours. These records must include the identity of the person from whom the reporting entity received the cryptocurrency, the date, the amount received, the type of cryptocurrency, and the exchange rate. The reporting entity must take reasonable measures to determine whether the transaction was made on behalf of a third party. If so, the reporting entity’s records must include the identity of the third party.
In addition to maintaining records of large cryptocurrency transactions, the reporting entity must report these transactions to FINTRAC by filing a Large Virtual-Currency Transaction Report (LVCTR). The reporting entity must file an LVCTR if (1) the entity receives cryptocurrency of C$10,000 or more in a single transaction or (2) the entity receives cryptocurrency of C$10,000 or more within a 24-hour window, and the transaction was conducted by, on behalf of, or for the same person. The reporting entity must submit the Large Virtual-Currency Transaction Report to FINTRAC within 5 business days of receiving the threshold amount.
Moreover, the new money-laundering-and-terrorist-financing rules also require cryptocurrency exchanges, both foreign and Canadian-based, to comply with the record-keeping requirements and FINTRAC-reporting requirements. Under section 5 of the Proceeds of Crime (Money Laundering) and Terrorist Financing Act, the record-keeping requirements and FINTRAC-reporting requirements extend to both:
- “persons and entities that have a place of business in Canada and that are engaged in the business of […] dealing in virtual currencies”; and
- “persons and entities that do not have a place of business in Canada, that are engaged in the business of [dealing in virtual currencies] that is directed at persons or entities in Canada, and that provide those services to their clients in Canada.”
This means that Canadian and non-Canadian cryptocurrency exchanges must submit a Large Virtual-Currency Transaction Report to FINTRAC if the cryptocurrency exchange maintains an account into which a Canadian person deposited (or beneficially owned a deposit of) fiat money or cryptocurrency of C$10,000 or more, either in a single transaction or across multiple transactions within a span of 24 hours. In certain circumstances, the new rules also require these cryptocurrency exchanges to verify their client’s identity by requesting a copy of valid government-issued photo ID, by running a credit check, or (in the case of an entity) by obtaining the articles of incorporation, partnership agreement, trust deed, or other constating document.
Although the CRA can request that FINTRAC share the information it obtains from Large Virtual-Currency Transaction Reports, the reporting entities are not yet required to submit this information directly to the CRA. But there’s no reason to think that Canada won’t institute a cryptocurrency-focused tax-reporting obligation.
In fact, we may very well see the rise of an international cryptocurrency tax-reporting regime, in which cryptocurrency exchanges must file multijurisdictional tax reports disclosing the identity and details of account holders whose cryptocurrency transactions and holdings exceed a certain threshold. For starters, the United States government doesn’t hesitate to demand that the entire world comply with US tax law. In 2010, the US enacted the Foreign Account Tax Compliance Act (FATCA), which requires all non-US financial intuitions to notify the IRS about accounts held by a US citizen or by a US resident. The United States’ enactment of FATCA raised serious concerns for Canadian banks. On one hand, if they ignored US FATCA requirements, they exposed themselves to American sanctions because many Canadian financial institutions had significant operations in the US. On the other hand, if Canadian banks complied with the US FATCA requirements, they risked breaching Canadian privacy laws. The friction ultimately caused Canada and the US to enter the FATCA Agreement in 2014. Under the FATCA Agreement, Canadian banks must still report substantially the same information about accounts held by US citizens or by US residents. But the information is initially reported to the Canada Revenue Agency under Part XVIII of Canada’s Income Tax Act. The CRA then forwards that information to the IRS under the Canada-US Tax Treaty’s information-exchange provisions, which require the two countries to comply with their own domestic laws, including those concerning privacy. The takeaway, however, is that the US had enough clout to sway Canada into incorporating a US tax-reporting requirement into Canada’s own domestic tax law. So, it’s conceivable that other countries may cater to the Biden Administration’s proposed cryptocurrency-reporting rules.
In addition, the Organization for Economic Co-operation and Development (OECD) has pledged that, by the end of 2021, it will release an updated common-reporting standard. The updated common-reporting standard will feature model tax rules whereby the tax authorities of OECD-member countries shall automatically exchange information concerning cryptocurrency transactions and holdings of taxpayers under their jurisdiction. Of course, if an OECD-member country like Canada plans on implementing the OECD’s recommendations, it must first enact a cryptocurrency-reporting regime locally. Obviously, a country cannot disseminate cryptocurrency-related information to its OECD counterparts unless it already collects that information for itself. Hence, the OECD’s recommendations will likely motivate Canada and other member countries to enact robust cryptocurrency-focused tax-reporting rules domestically. The resulting network will create what is essentially a worldwide tax-reporting regime for cryptocurrency exchanges.
Pro Tax Tips – Expert Canadian Tax Guidance from a Canadian Tax Lawyer: Voluntary Disclosures Program for Unreported Cryptocurrency Income & Solicitor-Client Privilege
The cryptocurrency-reporting measures proposed by the Biden Administration and the cooperative efforts of tax authorities signal the end of the anonymity that taxpayers had once associated with cryptocurrency investing and trading. Canadian taxpayers with unreported profits from cryptocurrency transactions should rightfully find these developments concerning. If you filed tax returns that omitted or underreported your cryptocurrency profits, you risk facing not only civil monetary penalties, such as gross-negligence penalties, but also criminal tax liability for tax evasion. Keep in mind that an intermediate transaction, such as the purchase of Bitcoin which is then used to purchase a different cryptocurrency, may itself result in tax liability.
You may qualify for relief under the Canada Revenue Agency’s Voluntary Disclosures Program (VDP). If your VDP application qualifies, the CRA will renounce criminal prosecution and waive gross-negligence penalties (and may reduce interest). A voluntary-disclosure application is time-sensitive, however. The CRA’s Voluntary Disclosures Program will reject an application—and thus deny any relief—unless the application is “voluntary.” This essentially means that the VDP must receive your voluntary-disclosure application before the CRA contacts you about the non-compliance you sought to disclose. Our experienced Certified Specialist in taxation Canadian tax lawyer has assisted many Canadian taxpayers with correcting non-compliance involving cryptocurrency. Our Canadian tax law firm can carefully plan and promptly prepare your voluntary-disclosure application. A properly prepared disclosure application not only increases the odds that the Voluntary Disclosures Program will accept your disclosure but also lays the groundwork for a judicial-review application to the Federal Court should the CRA unfairly deny your disclosure.
To determine whether you qualify for the Voluntary Disclosures Program, schedule a confidential and privileged consultation with one of our expert Canadian tax lawyers. Solicitor-client privilege prevents the Canada Revenue Agency from learning about the legal advice that you received from your Canadian tax lawyer. Yet your communications with an accountant remain unprotected. So, if you seek tax advice but want to keep that information away from the CRA, you should first approach a Canadian tax lawyer. If an accountant is needed, your Canadian tax lawyer can retain the accountant on your behalf and extend legal privilege.
"This article provides information of a general nature only. It is only current at the posting date. It is not updated and it may no longer be current. It does not provide legal advice nor can it or should it be relied upon. All tax situations are specific to their facts and will differ from the situations in the articles. If you have specific legal questions you should consult a lawyer."
Frequently Asked Questions
The CRA employs a few different tactics to identify non-compliant Canadian cryptocurrency traders for tax audit and criminal prosecution for tax evasion. For example, if you use a cryptocurrency exchange in Canada, the Canada Revenue Agency can secure a court order requiring your cryptocurrency exchange to surrender information about account holders, which might include you. The CRA can also obtain information about your cryptocurrency transactions from the Financial Transactions and Reports Analysis Centre of Canada (FINTRAC), which now receives Large Virtual-Currency Transaction Reports (LVCTR) on cryptocurrency transactions of C$10,000 or more, either in a single transaction or across multiple transactions within a span of 24 hours. In addition, if you use a US-based cryptocurrency exchange, the Canada-US Tax Treaty allows the CRA to procure taxpayer information from the Internal Revenue Service, which, for the past few years, has been actively blitzing US cryptocurrency exchanges for information about account holders and cryptocurrency transactions. Moreover, the US has already proposed—and Canada probably will too—that cryptocurrency exchanges file information returns about transaction activity within user accounts. Finally, you should keep in mind that the CRA and the IRS have no difficulty tracing transactions involving mainstream cryptocurrencies, like Bitcoin. Bitcoin’s open-ledger blockchain system allows tax authorities to identify users with relative ease. If you filed tax returns that omitted or underreported your cryptocurrency profits, you risk facing not only civil monetary penalties, such as gross-negligence penalties, but also criminal liability for tax evasion.
I purchased units of the cryptocurrency Monero (XMR). I then traded the Monero (XMR) units for Bitcoin, but I haven’t sold any cryptocurrency for fiat money, like Canadian or US dollars. Is a crypto-to-crypto transaction taxable? Or do I only need to report the income when I cash out my cryptocurrency holdings into fiat money?
A cryptocurrency-to-cryptocurrency transaction will often by itself result in tax liability. For example, if the value of the XMR units when you traded them exceeded your tax cost for the XMR units when you bought them, you made a profit, and you must report that profit on your income-tax return as either a capital gain or business income. Our Certified Specialist Canadian tax lawyer can provide advice about proper reporting of your cryptocurrency profits to ensure that CRA doesn’t fault you for misrepresenting the information in your tax returns.
You might qualify for relief under the Canada Revenue Agency’s Voluntary Disclosures Program (VDP). If your VDP application qualifies, the CRA will renounce criminal prosecution and waive gross-negligence penalties (and may reduce interest).
The VDP will grant relief only if your voluntary-disclosure application satisfies various conditions. For example, the CRA’s Voluntary Disclosures Program will reject an application—and thus deny any relief—unless the application is “voluntary.” This essentially means that the VDP must receive your voluntary-disclosure application before the CRA contacts you about the non-compliance you sought to disclose. To determine whether you qualify for the Voluntary Disclosures Program, schedule a confidential and privileged consultation with one of our expert Canadian tax lawyers.