How A Taxpayer’s Complaint With The Department Of Justice Could Change Crypto

Last Thursday, the public learned that Joshua and Jessica Jarrett, on behalf of the Attorney General of the United States, had been offered a full refund of $3,793, plus statutory interest, for the 2019 tax year in response to their complaint concerning the taxation treatment of cryptocurrency tokens they obtained. According to the court documents, a trial meeting is set for next Thursday, February 10, between the judge, the Department of Justice attorneys representing the Defendant and attorneys for the Jarretts, to discuss next steps in the case.

Jarrett, the President and CEO of Quantify Fitness, a gym in Nashville, Tennessee released a statement indicating he would not accept the refund from the IRS, but rather continue on in the trial to help get an explanation along with his money back. For Jarrett, part of his complaint is the result of a lack of guidance from the IRS on how to treat cryptocurrencies that are received from blockchain networks in return for their efforts to validate transactions and create the next block on a blockchain.

On the court documents, six attorneys from two separate law firms are listed that include J. Abraham Sutherland, who has been making a name for himself in cryptocurrency circles recently and also serves as an Advisor to the Proof of Stake Alliance and as an Adjunct Professor to the University of Virginia School of Law. Leading the negotiations for the case with the DOJ is David L. Forst, a tax partner at Fenwick and West LLP. Fenwick represented Coinbase in its direct listing of COIN on the Nasdaq, which after the first day of trading was valued at $85 billion dollars and even has a testimonial from Paul Grewal, Chief Legal Officer of Coinbase, about how helpful the firm was in understanding a new technologies like cryptocurrency.

The Court of Public Opinion

The news that broke on Tuesday that sparked such a high degree of public attention to the case was written by Casey Wagner, Senior Reporter at Blockworks, a publication co-founded by Jason Yanowitz. Wagner is formerly a reporter at Bloomberg News and the Editor-In-Chief of Blockworks is Dan Keeler, who formerly served as the Frontier Markets Editor at the Wall Street Journal.

As the cryptocurrency community reacted to the news, it was clear that beyond the court of law, a major fight in public discourse between the various blockchain protocols will ultimately have to surface as this could not only impact various blockchain protocols, but the future growth and appreciation of cryptocurrencies in general.

Should the crypto community be able to come together and unite on issues relating to taxation, regulators such as the IRS and the SEC will no longer be able to provide loose or no guidance in areas such as the tax code and the general treatment of cryptocurrencies by regulators. With the Biden Administration taking a keen interest in crypto and lawmakers holding hearings almost every week, the industry will need to provide a professional and credible relationship with Capitol Hill. Otherwise, the potential benefits to the crypto ecosystem will simply be brushed aside by Members of Congress and Senators who may be willing to engage in bipartisan policy for cryptocurrency.

Timeline of the Court Case Asking For A Refund And An Explanation

Below is a timeline that will help us to reset the events of the trial in court, and then I will share quotes from an expert on these types of cases who will help to better understand what could come next for the Jarretts in court.

July 31, 2020 – The Jarretts seek a refund in the amount of as the couple seeks a refund of $3,793 plus statutory interest, and a brief filed in support of the Jarrett’s claim that the “8,876 New Tezos Cryptocurrency Reward Tokens Are Not Taxable Income in 2019 Under the Internal Revenue Code.” The author of the brief was J. Abraham Sutherland, who is quickly growing in popularity amongst the cryptocurrency community for this and other notable work related to additional language he brought to the public’s attention in the Infrastructure and Investment Jobs Act that could have impact on cryptocurrency holders when they engage in peer-to-peer transactions.

May 26, 2021 – A lawsuit is filed in the U.S. District Court Middle District of Tennessee, Nashville Division “for a refund of federal income taxes paid to Defendant United States of America, by and through its agency the Internal Revenue Service (the “IRS”), with respect to the Jarretts’ taxable year ending December 31, 2019, and statutory interest thereon.” Attorneys listed for the plaintiff on court documents show Jeffrey M. Harris and Cameron T. Norris of Consovoy Mcarthy PLLC, and David L. Forst and Sean P. McElroy of Fenwick and West LLP, and Sutherland, the previously mentioned author of the brief in 2020.

December 20, 2021 – This is the date of a letter from the U.S. Department of Justice, Tax Division, notifying the Jarretts that the Attorney General of the U.S. that a full refund of $3,793, plus statutory interest, sought in the complaint for the 2019 tax year has been approved on behalf of the Attorney General. The letter notifies the Jarretts that the Internal Revenue Service has been authorized and directed to schedule an overpayment of $3,793, plus statutory interest as provided by law for the 2019 tax year.

January 5, 2022 – Forst of Fenwick and West LLP receives an email from DOJ that includes a draft stipulation of dismissal.

January 14, 2022 – Forst speaks with the DOJ on a phone call.

January 25, 2022 – Forst writes a letter that is addressed to Ryan McMonagle in the Tax Division of the United States Department of Justice where he indicates it is implied that the DOJ’s offer to direct the IRS to provide a full refund to the Jarretts that this brings the parties’ dispute to an end. Forst goes on to point to the phone call itself on January 14th as reason why the plaintiffs do not share the view that the case can be dismissed and closed. Forst then provides the details of the January 14th phone call with the DOJ, stating, “ During the call, you were unable or unwilling to explain the reasons for the Department’s proffer, or its meaning for the Jarretts in subsequent tax years – or, indeed, in 2019 itself.” Forst also expressed frustration in the call that, “The IRS will also apparently not provide any assurances with respect to the sole issue that gave rise to this litigation – whether tokens created through staking a particular cryptocurrency constitute taxable income at the time of their creation.”

February 3, 2022 – Court documents reveal the above communications that a case management conference is set for February 10, 2022, which is typically when the judge and the parties (the Plaintiff and Defendant) meet prior to setting a trial date.

Exclusive Interview With Former DOJ Attorney On What The Trial Means

I had the honor of speaking with Christopher S. Rizek, Member at Caplin and Drysdale and Adjunct Professor at Georgetown, who has previously served as a Trial Attorney with the U.S. Department of Justice, Tax Division, as well as an Attorney-Advisor and Associate Tax Legislative Counsel with the U.S. Treasury Department, Office of Tax Legislative Counsel, where he had substantial responsibilities for legislation and regulatory actions involving taxpayer rights, tax practice and procedure, and tax compliance.

Jason Brett: Would you consider this a test case for the tax treatment of crypto?

Christopher S. Rizek: As of now, not taking the refund from the IRS makes it clear this is a test case; however, until the judge decides to write an opinion, there is no real precedent set for anyone. It is simply Mr. Jarrett and his wife being offered an IRS refund.

Brett: What if the IRS processes and sends the check to Jarrett? Is the case over?

Risek: That is interesting, and it seems clear that the hope of Mr. Jarrett and his lawyers was to have a precedent set through this lawsuit. However, all of this area around crypto and taxation is a hot topic and still lacks a great deal of clarity. The IRS could send a check and technically close out the case, assuming the court lets them. It’s apparent the IRS does not want to resolve the substantive issues using this case as the vehicle, and may choose to resolve them through policymaking on its own.

Brett: Why is there a tax break for ‘newly created property’? Can you provide another example where this applies?

Risek: The basic idea is that there is no “realization” event until the property is sold. Self-created art works are a classic example.

Brett: What happens next, now that the taxpayer has refused the refund? Presumably DOJ will move for dismissal of the case with prejudice, and the taxpayer will object. Will he get his day in court?

Risek: That’s up to the judge. The initial issue will be whether to even proceed to the merits of the crypto issues or just grant the DOJ’s motion.

Brett: Does this mean there is one judge who could very well set a precedent if he or she were to provide an opinion on staking?

Risek: If the court proceeds to the merits, and the judge writes an opinion, then yes it could be cited by others as the correct way to resolve the substantive tax issues.

Brett: If you are the Jarretts, are you better off taking the money and assuming in future years now that you do not have to pay tax on your staking rewards? Should others follow this example and simply file their taxes in a way that shows there is no tax owed on the staking as newly created property?

Risek: People who do staking should talk to their own tax advisors about that, I can’t advise them. But I can say that if DOJ prevails and the court declines to address the merits, then this case won’t establish any principle that is necessarily applicable in other situations or cases.