IRS Decision: Income From Proof-of-Stake Mining Might Not Be Taxable
Is the income made from proof-of-stake mining taxable? Let's take a look at the IRS's recent decision on cryptocurrency and what it means.
Feb. 4 2022, Published 12:14 p.m. ET
Cryptocurrency and blockchain technology has been criticized for having a high energy bill. Fortunately, new blockchain innovations have been able to quell that energy usage from record highs. The IRS recognizes the environmental impact that PoS (proof-of-stake) consensus mechanisms have on cryptocurrency. The IRS is rewarding miners with a tax break. Is the income from proof-of-stake mining taxable?
For consensus mechanisms with a higher footprint—namely PoW (proof-of-work)—higher taxes might be a deterrent for miners to mint transactions. Here’s the rundown of how and why Uncle Sam cuts PoS miners a break.
U.S. lawmakers recognize that PoS is better for the environment than PoW.
House Energy and Commerce Committee Chairman Frank Pallone (D-NJ)
In January, a U.S. Congress subcommittee called the House Energy and Commerce Committee met to discuss the environmental impact of cryptocurrency. From a bipartisan perspective, lawmakers agreed that PoW is significantly more energy intestinal than PoS.
PoW requires a massive amount of machine computation to complete a single transaction. Meanwhile, PoS requires miners to stake collateral to keep transactions secure and rewards those miners with tokens when they successfully complete a transaction.
Cryptocurrency energy use perspectives vary depending on the source. For example, digital asset investment manager CoinShares says that Bitcoin (BTC) mining omits 39 Mt (megatons) of carbon annually, which is less than the global banking system’s 130 Mt.
If you ask the U.S. House Energy and Commerce Committee, Ether (ETH) and BTC emit as much carbon as 15.5 million gas-powered active vehicles, or 64 Mt annually. BTC reportedly accounts for 90 percent of that total (ETH currently operates on a merged blockchain and is in the process of shifting to fully PoS).
The IRS refunds taxes to miners for unsold PoS tokens.
Joshua and Jessica Jarrett and family
On Feb. 3, the IRS announced that it’s refunding a Nashville, Tenn. couple named Joshua and Jessica Jarrett for unsold tokens acquired through PoS cryptocurrency mining. In May 2021, the couple went to court over taxes charged for 8,876 Tezos tokens that they acquired via PoS mining. The couple paid $3,293 of income tax on the tokens despite not selling them.
According to the Jarrett's legal complaint, "Per the Oxford English Dictionary, to 'realize' is to 'convert (an asset, as securities, property, etc.) into a concrete or more readily accessible form of wealth [...] in order to obtain the monetary value.'"
Currently, the U.S. treats cryptocurrency income like short-term capital gains, which means that you’re only taxed when you sell. Since miners get rewarded for staking collateral in a PoS transaction, that income isn't from selling tokens, but creating them.
Will the IRS offer tax breaks for all PoS miners?
The Jarretts hope that the IRS will extend their case to the entire PoS mining community via a binding precedent. However, the IRS has only offered a settlement so far. The couple has rejected the settlement and wants to take the IRS to court to argue their case for broader applicability. If the IRS recognizes the benefit of PoS for the environment compared to energy-intensive PoW protocols, it could expand the tax breaks to be market wide.
Until then, cryptocurrency remains a hot topic for regulators and precedents are bound to change.