Department of Justice Requests List of All Users of Bitcoin Exchange, Citing Potential for Tax Evasion

The Department of Justice has filed in the United States District for the Northern District of California for a “John Doe” summons to be issued to Coinbase, Inc. for a list of all United States persons who conducted transactions in a “convertible virtual currency” between January 1, 2013 and December 31, 2015 (In the Matter of the Tax Liabilities of John Does; No. 3:16-cv-06658, USDC Northern California).  The key “convertible virtual currency” in question in this matter is Bitcoin.

Coinbase, Inc. is the largest Bitcoin exchange in the United States.  An exchange allows holders of Bitcoin to convert their virtual currency into traditional currency, in this case primarily U.S. dollars.

In the memorandum filed in support of the John Doe summons the government writes:

Since 2009, the use of virtual currency has increased exponentially. Some users value the relatively high degree of anonymity associated with virtual currency transactions because only a transaction in virtual currency, such as buying goods or services, is public and not the identities of the parties to the transaction. Because of that, virtual currency transactions are subject to fewer third-party reporting requirements than transactions in conventional forms of payment. However, due to this anonymity and lack of third-party reporting, the IRS is concerned that U.S. taxpayers are underreporting taxable income from transactions in virtual currencies. Further, because the IRS considers virtual currencies to be property, United States taxpayers can realize a taxable gain from buying, selling, or trading in virtual currencies. There is a likelihood that United States taxpayers are failing to properly determine and report any taxable gain from such transactions.

The memo goes on to describe Coinbase, Inc., the party to whom this summons would be issued:

As of December 2015, Coinbase has four main products: (1) an exchange for trading bitcoin and fiat currency (fiat currency is legal tender that is backed by the government that issued it); (2) a wallet for bitcoin storage and transactions; (3) an application programming interface (API) for developers and merchants to build applications and accept bitcoin payments; and (4) “Shift Card,” the first U.S.-issued bitcoin debit card. Id. at ¶ 42. The Shift Card is a VISA branded debit card that enables Coinbase users in the United States (that reside in one of twenty-four states and Washington, D.C.) to spend bitcoin anywhere VISA is accepted. Id.

The government is looking to be granted this summons under “John Doe” summons authority granted to the government under IRC §7609(f) which provides:

Any summons . . . which does not identify the person with respect to whose liability the summons is issued may be served only after a court proceeding in which the Secretary establishes that --

(1) the summons relates to the investigation of a particular person or ascertainable group or class of persons,

(2) there is a reasonable basis for believing that such person or group or class of persons may fail or may have failed to comply with any provision of any internal revenue law, and

(3) the information sought to be obtained from the examination of the records or testimony (and the identity of the person or persons with respect to whose liability the summons is issued) is not readily available from other sources.

The key question will likely be the extent to which the IRS has limited the summons request to an “ascertainable class” under this provision.  The request would have the agency receiving a list of all individuals who had entered into Bitcoin transactions with Coinbase, Inc.  The IRS position in support of the summons involves two cases involving Coinbase customers with millions of dollars in revenue.

CNET reported on November 21, 2016 that Coinbase, Inc. is likely to challenge this request (Coinbase Fights IRS Efforts to Obtain Customer Records, CNET, November 21, 2016).  The article provides the following statement from Coinbase, Inc.:

“Although Coinbase’s general practice is to cooperate with properly targeted law enforcement inquiries, we are extremely concerned with the indiscriminate breadth of the government’s request,” the company said in a statement. “Our customers' privacy rights are important to us and our legal team is in the process of examining the government's petition.”