Although the VDP is no walk in the park, it provides an avenue for crypto investors to voluntarily come forward and substantially mitigate the risk of being prosecuted for tax fraud.
The IRS also added more clarity to estate, gift, and employment taxes, which were not clearly addressed in the VDP before.
Here’s what you need to know about the new voluntary disclosure for crypto.
Should You Use Voluntary Disclosure for Crypto?
The Voluntary Disclosure Program allows taxpayers who willfully left certain information off their tax returns to come forward and get back in good standing with the IRS. Importantly, the VDP is only an option for those who aren’t already being audited, aren’t the target of a “John Doe” summons, and aren’t being investigated by the IRS.
While the IRS will never definitively promise not to pursue criminal tax charges against a taxpayer, successfully completing the VDP brings you as close as you can get to that assurance.
That being said, it’s a long process and should be considered very carefully.
We’ve previously covered how the crypto question on Form 1040 sets the stage for future tax fraud cases. The IRS is serious about crypto tax enforcement, so anyone who’s worried about potential criminal charges should speak to a tax attorney about this option.
Voluntary Disclosure for Cryptocurrency: What Needs to Be Reported?
The following information must be reported as part of the voluntary disclosure for crypto:
- Information for all non-compliant virtual currency the taxpayer owned, controlled, or was the beneficial owner of, either directly or indirectly, for the entire disclosure period (6 years).
- Information about where the crypto is stored.
- Whether a “mixer” or “tumbler” was used in connection with any virtual currency transaction, along with the reason it was used.
Wondering what should or shouldn’t be reported on your tax returns when it comes to crypto? Check out our Crypto Tax Guide for everything you need to know!
Penalties for Unreported Crypto Under the VDP
Once you’ve admitted to the IRS that you left crypto off your tax returns and provided them with all your virtual currency information, what’s next? Using the voluntary disclosure for crypto doesn’t mean you’re completely off the hook, but it does help you avoid criminal prosecution.
You can expect to pay in full all tax and interest on the past 6 years of tax deficiencies. In addition, in lieu of failure to pay or failure to file penalties that typically apply, a civil fraud penalty of 75% will be applied to the year with the highest tax liability.
In some circumstances, filing through the VDP can actually allow for penalty savings rather than simply filing delinquent or amended tax returns to report cryptocurrency income.
Additional Updates to the VDP
Previously, the VDP focused heavily on income tax. To make the penalty structure clearer, the IRS also added information about the penalties taxpayers can expect in other areas.
- Taxable entities and individual fraud: The 75% fraud penalty applies to both the taxable entity (i.e. C-corporation, trust, etc.) and the related individual. The civil penalty applies to the taxable entity regardless of submitting a separate VDP application.
- Estate tax penalties: The 75% penalty will be reduced to 50% for all voluntary disclosures associated with estate tax issues.
- Gift and generation-skipping tax penalties: The new revisions wipe away the 6-year disclosure period for Form 709 related issues; instead, taxpayers must file all outstanding forms. The 75% fraud penalty will apply only to the year with the highest tax liability; if only one year, the penalty is reduced to 50%.
- Employment tax penalties: For non-filing or incorrect filing of employment taxes, the 75% fraud penalty applies to the tax quarter with the highest tax liability. The revisions remind taxpayers that if they are accepted into the VDP, they’re still obligated to file Form W-2.
The revised instructions for the Voluntary Disclosure Program provide taxpayers and professionals with much-needed clarity regarding who should consider applying. It also shows, once again, how serious the IRS is about enforcing crypto taxes.
For individuals who have failed to report cryptocurrency in previous years, it may be possible to avoid harsher penalties through the VDP. If you need help applying for the Voluntary Disclosure Program, contact the award-winning tax attorneys at Gordon Law Group!