IRS: Bitcoin Subject to Employer Withholding and Reporting

Author: Rena Pirsos, XpertHR Legal Editor

May 30, 2014

The Internal Revenue Service (IRS) has issued guidance in the form of frequently asked questions (FAQs) explaining the federal employment tax implications of transactions in, or using, virtual currency such as Bitcoin. The IRS treats virtual currency as property for US federal tax purposes. Consequently, existing general tax principles that apply to property transactions also apply to transactions between employers and employees, or independent contractors, using virtual currency.

What Is Virtual Currency?

According to the IRS, virtual currency may be used to pay for goods or services or may be held for investment. Virtual currency is a digital representation of value that functions as a medium of exchange, a unit of account and/or a store of value. It may operate like "real" currency - i.e., the coin and paper money of the US or any other country that is designated as legal tender, circulates and is customarily used and accepted as a medium of exchange in the country in which it is issued - but it does not have legal tender status in any jurisdiction.

Virtual currency that has an equivalent value in real currency, or that acts as a substitute for real currency, is referred to as "convertible" virtual currency. Bitcoin is one example of a convertible virtual currency. It can be traded digitally between users and can be purchased for, or exchanged into, US dollars, Euros and other real or virtual currencies.

Can Employers Pay Employees in Bitcoin?

Employers may pay employees in Bitcoin. Regarding income and employment taxes, employers need to know that:

  • Wages paid to employees using virtual currency are taxable to the employee, must be reported by an employer on a Form W-2, Wage and Tax Statement, and are subject to federal income and employment tax withholding.
  • Payments using virtual currency made to independent contractors and other service providers are taxable and self-employment tax rules generally apply. Payers must issue a Form 1099 to the payee.
  • A payment made using virtual currency is subject to information reporting by an employer to the same extent as any other payment made in property.

These three principles are explained in greater detail in the guidance in FAQ-3, FAQ-5, FAQ-10 through FAQ-14 and FAQ-16 as they relate specifically to employee and independent contractor payments.

Comments Requested

The IRS is requesting comments regarding other types or aspects of virtual currency transactions that should be addressed in future guidance. Written comments may be sent to: Internal Revenue Service, Attn: CC:PA:LPD:PR (Notice 2014-21), Room 5203, PO Box 7604, Ben Franklin Station, Washington, DC 20044. Comments also may be submitted via email to: Notice.Comments@irscounsel.treas.gov ("Notice 2014-21" must be included in the subject line).