GAO Report on Virtual Currency Guidance (2/13/20)

The Government Accountability Office (“GAO”) issued a report titled:  Virtual Currencies: Additional Information Reporting and Clarified Guidance Could Improve Tax Compliance (2/20), here.  The Report is addressed "to the Ranking Member, Committee on Ways and Means, House of Representatives.”  The ranking member is the minority ranking member, Kevin Brady (R.-TX).  (I suspect that all members of Congress have received complaints about the IRS initiatives against virtual currencies, so favored by crooks and tax cheats, but also suspect that Republican members are more sympathetic to the complaints from people whose real or hidden agenda is not to pay tax).

At any rate, the Report summarily describes virtual currencies, including cryptocurrencies such as Bitcoin, generally, estimates the size of the market, the regulation by agencies (such as CFTC, FinCEN and SEC), the tax treatment of virtual currency and the IRS’s compliance efforts for virtual currencies, including sharing of information with other agencies.

I focus here on what the Report says about IRS guidance for tax reporting requirements for virtual currency transactions.  The guidance includes principally Notice 2014-21 (including public comments), Revenue Ruling 2019-24 and Frequently Asked Questions (FAQs) released in October 2019.  The principal guidance is Notice 2014-21 which the GAO Report describes as follows (p. 8 n. 15):

According to IRS Notice 2014-21, a taxpayer generally realizes a capital gain or loss on the sale or exchange of virtual currency that is a capital asset in the hands of the taxpayer. For example, stocks, bonds, and other investment property are generally capital assets. A taxpayer generally realizes ordinary gain or loss on the sale or exchange of virtual currency that is not a capital asset in the hands of the taxpayer. Inventory and other property held mainly for sale to customers in a trade or business are examples of property that is not a capital asset. Capital gains may be subject to lower tax rates than ordinary gains. Capital gains and losses are classified as long-term or short-term. Generally, if a taxpayer holds the asset for more than one year before disposing of it, the capital gain or loss is long-term. If a taxpayer holds it one year or less, the capital gain or loss is short-term. For more information, see IRS Publication 544, Sales and Other Dispositions of Assets.

The Report has a section titled: “IRS’s 2019 Virtual Currency Guidance Answers Some Taxpayer Concerns, but Presents Additional Challenges for Taxpayers.”  See pp. 18-20.  This sections reports concerns and complaints about the published guidance.

The Report then has a section titled: “IRS Did Not Include That the 2019 FAQs Are Not Legally Binding.” See pp. 20-21.  Since I focus the rest of this blog to that portion of the report, I will just excerpt it in full here (some footnotes omitted):

IRS Did Not Include That the 2019 FAQs Are Not Legally Binding 

IRS issues thousands of publications in a variety of different forms to help taxpayers and their advisors understand the law; however, IRS has stated that only guidance published in the IRB contains IRS’s authoritative interpretation of the law. n29 Unlike with the virtual currency FAQs IRS issued in 2014 in the form of a notice, the 2019 FAQs were not published in the IRB. Therefore, the 2019 FAQs are not binding on IRS, are subject to change, and cannot be relied upon by taxpayers as authoritative or as precedent for their individual facts and circumstances. For FAQs not published in the IRB, tax practitioners have noted that sometimes IRS has included a disclaimer noting that the FAQs do not constitute legal authority and may not be relied upon. n30 The new virtual currency FAQs do not include such a disclaimer.
   n29 Guidance published in the IRB goes through a multistep clearance process at both Treasury and IRS, involving review and approval by officials in a wide variety of Treasury and IRS offices. The weekly IRB is described as the “authoritative instrument” for publishing official IRS rulings and procedures and tax regulations. The five types of guidance published in the IRB are: regulations, revenue rulings, revenue procedures, notices, and announcements. Tax regulations are also published in the Federal Register and codified in the Code of Federal Regulations like other federal agency regulations. Other IRS publications and information are described in the Internal Revenue Manual as “a good source of general information.” The form that information in this category can take varies widely, and includes IRS videos, online tools, forms and publications, and FAQs. For more information, see GAO, Regulatory Guidance Processes: Treasury and OMB Need to Reevaluate Long-standing Exemptions of Tax Regulations and Guidance GAO-16-720, (Washington, D.C.: Sept. 6, 2016).
   n30 See, for example, IRS, “U.S. Withholding Agent Frequently Asked Questions,” updated October 22, 2019, https://www.irs.gov/businesses/international-businesses/us-withholding-agent-frequently-asked-question, accessed December 16, 2019. 

According to IRS officials, they did not include a disclaimer along with the new FAQs because the FAQs do not contain any substantial new interpretation of the law. IRS officials did not feel that a disclaimer about the limitations of the FAQs was necessary or that it would be helpful to taxpayers. However, the FAQs provide new information, such as a definition of the term “cryptocurrency” and an explanation of how taxpayers can track cost basis for virtual currency. 

As we have previously reported, clarity about the authoritativeness of certain IRS publications could be improved by noting any limitations, especially when FAQs provide information to help taxpayers comply with tax law. Additional explanatory language would help taxpayers understand what type of IRS information is considered authoritative and reliable as precedent for a taxpayer’s individual facts and circumstances. 

The first article in IRS’s Taxpayer Bill of Rights—“The Right to Be Informed”—states that taxpayers have the right to know what they need to do to comply with tax laws. The article further states that taxpayers are entitled to clear explanations of the laws and IRS procedures in all forms, instructions, publications, notices, and correspondence. As we have previously reported, just as taxpayers have the right to clear explanations in IRS instructions and publications, taxpayers should be alerted to any limitations that could make some IRS information less authoritative than others. 

Failing to note any limitations associated with particular guidance could lead to misinterpretation of nonauthoritative information from IRS. If taxpayers make decisions based on guidance that is nonauthoritative, including FAQs, those taxpayers’ confidence in IRS and the tax system could be undermined if the content is later updated and IRS challenges taxpayers’ positions. As we have noted in prior reports, taxpayers’ perception that IRS is fairly and uniformly administering the tax system

Of course, who can complain about greater disclosure/transparency on the issue? I certainly don't. 

But I note that there is at least the possibility of some confusion about the authoritativeness of any IRS/Treasury subregulatory guidance.  In the Report, the GAO’s use of the term authoritative and the IRS’s use of the term to describe contents of the IRB is not in a sense that may apply to the APA distinction between legislative rules (must be notice and comment regulations) and interpretive rules (which may be notice and comment regulations (a format the IRS generally uses for interpretive regulations) but is more often in IRS subregulatory guidance published in the IRB and elsewhere).  Obviously, legislative regulations are authoritative because they are the law rather than interpretations of the law; interpretive rules (whether by regulation or subregulatory guidance) are not the law but are interpretations of the law (the statutes).  Interpretive rules may inform a court’s interpretation and application of the law (statutes), whether by deference (i.e., Chevron) or by persuasiveness (i.e., Skidmore if Skidmore means anything).  But, it is the court’s interpretation of the law thus derived that is authoritative, not the agency interpretation.  Note in this regard, that the IRS and DOJ have announced that they will not urge Chevron deference for subregulatory interpretations of the tax law.  Thus, in 2019, the IRS issued Treasury and IRS Policy Statement on the Tax Regulatory Process (3/5/19), here.  Here is the relevant portion of that Policy Statement (pp. 2-3):

III. Proper Scope of Subregulatory Guidance Documents 

  In addition to regulations that carry the force and effect of law, sound tax administration necessitates less formal guidance to efficiently advise the public about the meaning of the tax laws. The Treasury Department and the IRS use a variety of forms of guidance to interpret and implement federal tax laws, including revenue rulings, revenue procedures, notices, and announcements. n1  Such guidance often provides taxpayers much-needed clarity and certainty concerning the legal interpretation that the IRS intends to apply, and taxpayers thus regularly request such guidance.
  n1 For the purpose of this policy statement, “subregulatory guidance” means subregulatory guidance published in the Internal Revenue Bulletin. The following types of subregulatory guidance are published in the Internal Revenue Bulletin: revenue rulings, revenue procedures, notices, and announcements. This policy statement does not apply to regulations issued jointly with the Department of Health and Human Services and the Department of Labor under 26 U.S.C. § 9833. 

Subregulatory guidance is not intended to affect taxpayer rights or obligations independent from underlying statutes or regulations. Unlike statutes and regulations, subregulatory guidance does not have the force and effect of law. Taxpayers can have confidence, however, that the IRS will not take positions inconsistent with its subregulatory guidance when such guidance is in effect. In applying subregulatory guidance, the effect of subsequent legislation, court decisions, rulings, and procedures must be considered.  

When proper limits are observed, subregulatory guidance can provide taxpayers the certainty required to make informed decisions about their tax obligations. Such guidance cannot and should not, however, be used to modify existing legislative rules or create new legislative rules. The Treasury Department and the IRS will adhere to these limits and will not argue that subregulatory guidance has the force and effect of law. In litigation before the U.S. Tax Court, as a matter of policy, the IRS will not seek judicial deference under Auer v. Robbins, 519 U.S. 452 (1997) or Chevron U.S.A., Inc. v. Natural Resources Defense Council, Inc., 467 U.S. 837 (1984), to interpretations set forth only in subregulatory guidance. 

Caveat, unlike the limitation in footnote 1 of subregulatory guidance to guidance published in the IRB, I do not so limit that category in the discussion in this blog.  I use the term subregulatory guidance to refer to all IRS guidance below regulations, whether in the IRB or not.

I think the Report is not using the term “authoritative” in the sense used in administrative law (including the APA).  I think the Report is referring to the virtual currency guidance–all of which is subregulatory and thus not authoritative as to what the law is.  (Indeed, even if the interpretation were in a regulation, it would not be authoritative in courts in the APA sense as noted above.)  Rather authoritative as used in the Report is that it is the IRS’s interpretation of the applicable statute(s) and how the IRS will enforce it in its administration of the tax law.  Whether a court will ultimately reach the same interpretation is a different matter.  The IRS has said that interpretations in the IRB are authoritative in this sense for its internal administrative purposes and inform taxpayers of those purposes.  In this sense, the interpretation is not authoritative for a court (except, perhaps in a Skidmore sense, which likely means nothing).

So, bottom line, any requirement that a subregulatory guidance document is said to be authoritative, it only means authoritative within the IRS.  With that qualification for all subregulatory guidance documents (i.e., authoritative internally if in IRB and not so if not in IRB), I have no problem.

Finally, I do caution readers reading the IRS Policy Statement, it is inconsistent or at least ambiguous as to the legislative / interpretive distinction so important in administrative law.  For a more detailed analysis of the Policy Statement, see my latest thoughts incorporated in the article:  Townsend, John A., The Report of the Death of the Interpretive Regulation Is an Exaggeration 130-134(January 25, 2020). Available at SSRN: https://ssrn.com/abstract=3400489.