Current Taxing System
Mr. Jarret is taking on the IRS, fighting against the double taxation that results from staking crypto tokens. Covered in my twitter thread, gains made from staking coins are currently subject to double taxation—taxed once as income, and taxed a second time as capital gains.
This can cause a major headache for individuals who stake coins to secure a blockchain if those coins change price while they hold them.
Lets say you stake 100 tokens worth $1,000 total on an exchange for an APY of 100%. At the end of the year, you would have a total of 200 token—your 100 original tokens + 100 tokens earned. If the price stayed the same, your tokens would be worth $2000.
Currently, the IRS will tax the receipt of those 100 tokens as income. Then, if the tokens go up in value, when you sell those tokens, you will also be subject to capital gains tax .
However, if the value of your tokens drop in price, you are still required to pay taxes on their value at the time you earned them (income tax). So, if the value of your tokens falls 75%, your 200 tokens are now worth $500. But, the IRS still taxes you on the token value at the time they were earned—$1000.
So, despite only holding tokens worth $500, you owe income taxes based on the $1000 the tokens were worth then you earned them.
The Case
Mr. Jarrett owned Tezos tokens which he staked in 2019. During 2019, Jarrett created a total of 8,876 new Tezos tokens as a result of his computing power and his staking of his existing Tezos tokens. Jarrett is challenging the IRS’s categorization of these Tezos tokens as income, arguing that because he held the tokens, the tokens cannot be considered as income.
Instead, Jarrett argues that these coins are property created by the taxpayer—not payment or compensation by another party. Similar to how a baker is not taxed when they bake bread (only when they sell that bread), and a writer is not taxed when they write a book (only when they sell that book), individuals should not be taxed when they create tokens (only when they sell those tokens).
Jarrett cites Supreme Court case Eisner v. Macomber, as holding that income must involve a “coming in” and not merely the creation of property, and Commissioner v. Glenshaw Glass, as characterizing income as “instances of undeniable accessions to wealth, clearly realized….” Jarret goes on to argue that created property is not “realized” wealth, and thus should not be taxed as such.
While I agree with Jarrett in that staking rewards should be taxed only based on their increase in value during the time they are held, I think Jarrett faces an uphill battle with his analogy. I am hard-pressed to imagine a court finding that the reward of tokens created through staking more analogous to a baker creating bread than to the payment of dividends.
Let me know what your thoughts on the matter are.