Oh to be young. On June 12, Bloomberg TV's Street Smart reported that a couple became engaged and has further proposed transacting in bitcoin exclusively, i.e., no U.S. dollars, at least for the first 90 days of their marriage. The couple plans to pay for food, rent, and all of life's other essentials and non-essentials using bitcoins, and to make a documentary film about the experience. The practical concerns over this idea were apparent:

Whether or not bitcoins are "money" is definitely widely debated; however, it seems that bitcoins are at least "property," not U.S. dollars, created through a process referred to as "mining" or acquired through barter exchanges and in that context Rev. Rul. 80-52, 1980-1 C.B. 100, provides guidance. Rev. Rul. 80-52 explains that a barter club uses credit units to credit or debit members' accounts for goods or services provided or received. As soon as units are credited to a member's account, the member may use them to purchase goods or services or may sell or transfer the units to other members. The value of the credit units received is includible in the gross incomes of members for the taxable year in which the units are credited to their accounts. The dollar value of units received for services by an employee of the club, who may use the units in the same manner as other members, is includible in gross income for the taxable year in which received and is wages for purposes of FICA, FUTA, and income tax withholding. Yikes... but it may get worse when bitcoins are involved because, unlike the credit units in Rev. Rul. 80-52, one bitcoin does not necessarily equal $1 of value.

Section 1001(a) provides that the gain from the sale or other disposition of property equals the excess of the amount realized over the adjusted basis, and the loss equals the excess of the adjusted basis loss over the amount realized. Bitcoins may have an adjusted basis exactly equal to the value received when bitcoins are exchanged for shoes, for a truck, or for a commercial office building; however, that is unlikely to be the case because the value of a bitcoin fluctuates. Thus, for example, if bitcoins were acquired for $10x on date 1, then appreciated in value on date 2, and were exchanged for a $15x  lunch on date 3, there has been a disposition of property, i.e., the bitcoins, and we need to determine the purchaser's gain or loss. Section 1001(b) tells us that the purchaser's amount realized is the $15x value of the lunch and assuming no other transaction costs are capitalized into the basis of the bitcoins, the purchaser's basis in the bitcoins is $10x. Thus, the purchaser would recognize a $5x taxable gain from buying a $15x lunch with bitcoins for which they paid $10x. Feel free to add as many zeros behind the $10x and $15x variables as you like, and substitute "a commercial office building" for "lunch" whenever it appears in the example. Cf. Phillip Morris Inc. v. Comr., 104 T.C. 61 (1995) (repayment of foreign currency loan in U.S. dollars when dollar increased in value relative to the borrowed currency, i.e., conversion of fewer dollars into the foreign currency to repay the loan, resulted in foreign exchange gain on repayment of the foreign currency loan resulting from favorable conditions in the currency market).

If bitcoins are acquired through the "mining" process, the determination of the purchaser's basis in the bitcoins may be more complex - for example, section 263A may apply. The young couple's proposed exclusive use of bitcoins for the first 90 days of their marriage may prove to be an interesting documentary about federal income tax.

--Ryan Prillaman, Business Entities and Tax Accounting.