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What to Expect from the IRS on Bitcoin

With bitcoin surging in price over this year from $17 to $1,200, many invested in the virtual currency are wondering what sort of taxes they should expect to pay from gains, if any. While the Federal Reserve stated that "virtual currencies like bitcoin have legitimate uses and should not be banned," the IRS has failed to give any sort of guidance at this point.

It appears that bitcoin will be treated one of two ways related to taxation. It will either be considered an intangible asset or a foreign currency. The confusion that could arise from bitcoin being treated as a currency is that currency is legal tender issued by governments, which bitcoin is not. While both Canadian and Swedish tax authorities have made it clear bitcoin will be treated as an asset, the IRS has remained silent. Germany will consider the virtual currency as a financial instrument under the country's banking rules. Most are under the impression that unless explicitly stated by Congress, the IRS will treat bitcoin as an asset.

At a recent Senate hearing, academics and financial scholars warned that bitcoin could be regulated as a commodity if market volatility continues, in spite of there being no definition in the Internal Revenue Code of "commodity." This may or may not have an impact on tax treatment.

Investors and traders may actually prefer capital gains and loss tax treatment. With bitcoin's incredible appreciation thus far, investors can only hope that the IRS views their bitcoin transactions as trading in a commodity or other capital asset held for price appreciation. Until the IRS says otherwise, this tax treatment should prove safe to deploy on 2013 tax returns.

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