The United States Internal Revenue Service (IRS) stretches the tax rules to fit its cryptocurrency agenda. At no time in tax history has pure creation been a taxable event. Yet, the IRS seeks to tax new tokens as income at the time they are created. This is an infringement on traditional tax principles and problematic for several reasons.
In 2014, the IRS stated in an FAQ within IRS Notice 2014-21 that mining activities would result in taxable gross income. It is important to note that IRS notices are mere guidances and are not the law. The IRS concluded that mining is a trade or business and the fair market value of the mined coins are immediately taxed as ordinary income and subject to self-employment tax (an additional 15.3%). However, this guidance is limited to proof-of-work (PoW) miners and was only issued in 2014 — long before staking became mainstream. Its applicability to staking is especially misguided and inapplicable.
A newly filed lawsuit now underway in federal court in Tennessee challenges the IRS’s taxation of staking rewards at their creation. Plaintiff Joshua Jarrett engaged in staking on the Tezos blockchain — staking his Tezos (XNZ) and contributing his computing power. New blocks were created on the Tezos blockchain and resulted in newly created Tezos for Jarrett. The IRS taxed Jarrett’s newly created tokens as taxable gross income based on the fair market value of the new Tezos tokens. Jarrett’s attorneys correctly pointed out that newly created property is not a taxable event. That is, new property (here, the newly created Tezos tokens) is only taxable when it is sold or exchanged. Jarrett has the support of the Proof of Stake Alliance, and the IRS has yet to answer the Jarrett complaint.
A taxable income
In the history of the United States income tax, newly created property has never been taxable income. If a baker bakes a cake, it is not taxed when it comes out of the oven, it is taxed…