The Internal Revenue Service (IRS) offered a Tennessee couple a refund on income taxes paid for unsold staking rewards as part of what appears to be a settlement in an ongoing legal fight – a move industry experts say signals an important shift in the way the IRS views crypto staking.
In 2019, Joshua Jarrett paid income tax on 8,876 Tezos tokens he earned through staking. In 2020, Jarret asked the IRS to return the taxes he paid, arguing that the tokens were not income, but rather “created property.” The IRS currently treats digital assets as property for tax purposes, but assets generated through staking may also be taxed as income, as happened in Jarrett’s case.
Jarrett filed a lawsuit against the agency after the IRS did not respond, funded in part by the Proof of Stake Alliance (POSA).
In December 2021, attorneys for the IRS wrote to Jarrett and his wife’s attorneys to inform them that the IRS had been “authorized and directed to schedule an overpayment of $3,793, plus statutory interest.”
For POSA, the IRS’s concession that Jarrett’s taxes were an overpayment is a signal that the agency agrees with the plaintiff’s position that tokens he generated through staking are property and not income until they are sold.
“The IRS basically waved the white flag and said ‘Here’s your refund,’ and they wouldn’t do this after litigation has already started unless they thought there were some teeth to [Jarrett’s’] arguments,” said Alison Mangiero, the acting executive director of POSA.
The IRS declined to comment. The agency has not published any formal statement or otherwise indicated whether a settlement offered to a single plaintiff is a sign of a broader policy shift.
According to court records, a bench trial is currently set to begin in March 2023. The judge overseeing the case asked both parties to make “a good faith attempt to resolve the case” after the discovery process ends. Discovery is set to end by March 18, 2022.
As proof of stake blockchains like Solana, Avalanche, and Tezos continue to grow in popularity, both individual crypto stakers and groups like POSA have pointed out the need for tax clarity from the IRS.
Jarrett’s (and POSA’s) desire for clarity has pushed the lawsuit forward.
Not willing to settle for just the refund, Jarrett and his lawyers declined the IRS’ offer and are seeking the issuance of guidance from the IRS on whether tokens created through staking constitute taxable income at the time of their creation or, as Jarrett suggests, just when they’re sold.
Mangiero told CoinDesk that the Department of Justice (DOJ) has received Jarrett’s rejection of their offer, though they have not yet responded, and the case will proceed.
“If the court reaffirms [Jarrett’s] claim that these staking rewards should be taxed as created property, then there is a legal opinion that other taxpayers can rely on, and they can feel confident when they file their taxes every year,” Mangiero said.
Mangiero hopes the case will force the IRS to issue formal guidance.
“They have never issued guidance specifically on staking rewards,” Mangiero said. “And the only guidance they issued on mining, which is tangentially related, was back in 2014. There are a lot of people out there like [Jarrett] who are really trying to do the right thing and pay their taxes, and this would help them to do that.”