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6 June 20243 minute read

Proposed legislation would reverse IRS position on time for taxation of block rewards

On April 30, Representatives Drew Ferguson (R-GA) and Wiley Nickel (D-NC) introduced the Providing Tax Clarity for Digital Assets Act which, if enacted, would defer tax on the receipt of block rewards from proof-of-work (PoW) or proof-of-stake (PoS) networks to the time when the rewards are sold or disposed of. The IRS’s current position is that the value of such block rewards generally should be included in income when the taxpayer receives the rewards.

The bill

Specifically, the bill, if enacted, would add new Section 92 to the Internal Revenue Code, which would provide:

If, pursuant to a blockchain consensus mechanism with respect to any digital asset, a person acquires (directly, or indirectly through a service provider) a reward of a digital asset, (1) no income or gain shall result at the time of such acquisition, and (2) on the disposition of such digital asset in any taxable year, the income or gain (if any) with respect to such asset shall be the income or gain, as the case may be, from the disposition for such taxable year.

For purposes of the bill, the term “digital asset” means “any digital representation of value which is recorded on a cryptographically secured distributed ledger or any similar technology,” which generally would include any form of cryptocurrency. The term “blockchain consensus mechanism” means “a process by which a person commits resources in connection with validating the legitimacy of transactions and related entries in the cryptographically secured distributed ledger to which such digital asset relates.” The two most common consensus mechanisms are the PoW and PoS mechanisms. 

PoW and PoS 

PoW requires validators to solve complex computational puzzles to add new blocks to the blockchain. While ostensibly more secure, PoW is relatively slow and consumes significant amounts of energy. 

Bitcoin is among the types of cryptocurrency that use the PoW mechanism. The IRS’s current position, set out in FAQ #Q-8 of IRS Notice 2014-21, is that a taxpayer who “mines” bitcoin or other cryptocurrency on a PoW consensus mechanism generally must include in gross income the fair market value of the cryptocurrency received in connection with the mining activity at the time of receipt.

PoS allows users to validate transactions based on the number of cryptocurrency they hold and are willing to “stake” for the network’s security. Ethereum is an example of a cryptocurrency that uses the PoS mechanism. In Rev. Rul. 2023-14, the IRS ruled that a cash-method taxpayer who receives block rewards for validating a transaction in the PoS consensus mechanism must generally include in gross income the fair market value of the cryptocurrency received in connection with the staking activity at the time of receipt.

The bill would reverse the IRS’s current position with respect to block rewards received under the PoW or PoS mechanisms, permitting miners and stakers to defer tax on those rewards until disposition.

For more information, please contact the author.