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Celsius Bankruptcy and FTX Frozen Assets

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Celsius Bankruptcy and FTX Frozen Assets: Reporting Deductions and Options

The recent upheaval in the cryptocurrency market, marked by the bankruptcies of major platforms like Celsius and FTX, has left many investors facing significant financial uncertainties. These events have not only affected the value and accessibility of their digital assets but have also introduced complex tax reporting challenges. Investors must now grapple with the task of accurately reporting their losses and understanding the options available for tax deductions.

This article aims to provide a detailed guide on how to implement the tax implications of these events, focusing on the specifics of reporting deductions related to Celsius bankruptcy and FTX frozen assets. We will explore the legal framework governing these issues, particularly focusing on the Internal Revenue Code (IRC) and the latest guidelines from the Internal Revenue Service (IRS). Additionally, we will explore the process of determining whether these losses should be reported as capital losses or as losses from a Ponzi scheme, as detailed in IRS Form 4684.

Regulatory Background

The taxation of cryptocurrency transactions, including those affected by bankruptcies and frozen assets, is regulated by the Internal Revenue Code (IRC) and the guidelines provided by the Internal Revenue Service (IRS). Specific guidance can be found in IRS publications such as Revenue Ruling 2009-9 and Revenue Procedure 2009-20, which were initially established in response to the Bernie Madoff Ponzi scheme and provide relevant frameworks for similar situations today.

Reporting Deductions: Celsius Bankruptcy

Understanding the Tax Impact

When Celsius filed for bankruptcy, it significantly impacted investors who had assets on the platform. The tax implications depend on whether the taxpayer received any refunds and the nature of those refunds. If the taxpayer received a refund in kind (i.e., the same assets that were originally held), the cost basis and holding period remain the same as those of the original assets.

For example:

  • Loss Scenario: If the taxpayer originally invested $12,000 in cryptocurrencies on Celsius and received a refund valued at $7,900, the taxpayer incurred a loss of $4,100.
  • Gain Scenario: If the taxpayer’s initial investment was $6,000 and $7,900 was received, the taxpayer realized a gain of $1,900.

The key is to compare the original cost basis with the current market value of the refunded assets. Losses are realized when the assets are disposed of, while unrealized losses are only deductible upon disposition.

Steps to Report Losses

  1. Documentation: It should be ensured that all transaction histories from Celsius are well-documented including any refunds received.
  2. Calculating Losses: It should be determined the cost basis of the original investments and the value of any refunds.
  3. Form 4684: Casualty and theft losses should be reported on Form 4684, which is then attached to the Form 1040 tax return.

Reporting Deductions: FTX Frozen Assets

The situation with FTX is more complex due to the ongoing legal proceedings and uncertainty regarding the recovery of assets.

IRS Guidelines and Ponzi Scheme Rules

The IRS has specific rules for Ponzi scheme losses which can apply to situations like the FTX collapse. If a figurehead like Sam Bankman-Fried is charged with fraud, embezzlement or similar crimes, investors might be able to claim a theft loss.

Revenue Procedure 2009-20 provides a “safe harbor” deduction for qualified Ponzi scheme losses, allowing taxpayers to deduct 95% of their loss if no claim for recovery is pursued or 75% if recovery is sought from other parties.

Steps to Report Losses

  1. Legal Clarity: As the legal proceedings unfold, additional guidance from the IRS will likely be provided.
  2. Extension: Filing for a tax extension should be considered to avoid premature filing which can lead to complications.
  3. Protective Claims: A protective claim must be filed for a refund to preserve the right to claim a deduction once the situation is fully resolved.

Capital Loss vs. Ponzi Scheme on Form 4684

Capital Loss Reporting

Capital losses from cryptocurrency transactions including those resulting from bankruptcies, are typically reported on Schedule D and Form 8949. Losses can offset capital gains and up to $3,000 ($1,500 if married filing separately) of ordinary income per year.

Ponzi Scheme Reporting

For Ponzi scheme losses, Form 4684 is used. The losses must be substantiated by documentation and should follow the guidelines under Revenue Procedure 2009-20. This allows for a significant portion of the loss to be deducted in the year the scheme is discovered. For more information on Form 4684, you may visit our article here.

Any taxpayer who had investments on platforms like Celsius or FTX and suffered losses due to their bankruptcy or frozen assets must address these tax obligations. This includes individual investors, businesses and any entities that held digital assets on these platforms.

Process Steps for Handling Deductions

  1. Documentation: All transaction histories, refund details and any communication from the bankrupt platforms should be collected.
  2. IRS Guidelines: IRS publications and procedures relevant to the situation must be referred to (e.g., Revenue Ruling 2009-9, Revenue Procedure 2009-20).
  3. Losses: The losses should be determined based on the cost basis and current value of any refunds.
  4. Appropriate Forms: Form 4684 for casualty and theft losses and Schedule D/Form 8949 for capital losses must be used.
  5. Professional Help: A tax professional may be engaged to fulfill the complex obligations and ensure compliance with IRS regulations.

Services Provided by Dimov Tax & CPA Services

Dimov Tax & CPA Services assists clients in several ways concerning these complex tax situations:

  • Comprehensive Tax Analysis: Evaluating the tax impact of Celsius and FTX losses.
  • Form Preparation: Assisting in the accurate preparation of Forms 4684, Schedule D and Form 8949.
  • Filing Extensions and Protective Claims: Helping in filing for extensions and protective claims to ensure the right to claim deductions later.
  • Consultation and Guidance: Providing ongoing advice and updates based on the latest IRS guidance and legal developments.
  • Representation: Offering representation in case of IRS audits or inquiries related to cryptocurrency investments.

Conclusion

The bankruptcies of Celsius and FTX have had profound financial implications for investors, introducing significant challenges in tax reporting and deduction claims. By following the appropriate steps and consulting with tax professionals, investors can ensure they are compliant and maximize their potential deductions. Dimov Tax & CPA Services is here to assist in these challenging times and provide expert guidance and support to help you manage your tax obligations effectively.

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