Friday, December 1, 2017

Court Orders Enforcement of John Doe Summons Against Bitcoin Firm (12/1/17)

I have previously written on the IRS's John Doe Summons to Coinbase, a leading Bitcoin firm.  IRS seeks John Doe Summons to Bitcoin Firm (Federal Tax Crimes Blog 11/23/16; 11/30/16), here. In United States v. Coinbase, Inc. 2017 U.S. Dist. LEXIS 196306 (N.D. Cal. 11/28/2017), here, the U.S. Magistrate Judge ordered compliance with respect to most but not all of the information requested by the Government in a narrowed scope for the summons.  The Magistrate Judge's judgment is here; the docket entries as of today is here.

The Court did the standard summons analysis under the Powell standards.

The Court's key holdings, based on its conclusions as to relevance to IRS's legitimate need for information and documents, are in the following excerpts:
The Court agrees that the Coinbase account holder's identity and transaction records will permit the Government to investigate whether the holder had taxable gains that were not properly declared. But the Government seeks more than that information; it also seeks account opening records, copies of passports or driver's licenses, all wallet addresses, all public keys for all accounts/wallets/vaults, records of Know-Your-Customer diligence, agreements or instructions granting a third-party access, control, or transaction approval authority, and correspondence between Coinbase and the account holder. The Government claims to need these records to verify an account holder's identity and determine if the holder used others to make transactions on the account holder's behalf. However, at this stage, where the Government is seeking records on over 10,000 account holders, these requests seek information than is "broader than necessary." See Bisceglia, 420 U.S. at 151. The first question for the IRS is whether an account holder had a taxable gain. If the account holder did not, then correspondence between Coinbase and a user is not even potentially relevant. Similarly, while the Government needs an account holder's name, date of birth, taxpayer identification and address to determine if a taxable gain was reported, it only needs additional identity information such as copies of passports and driver' licenses or "Know Your Customer" due diligence if there is potentially a taxable gain and if there is some doubt as to the taxpayer's identity. If there is not, these additional records will not shed any light on a legitimate investigation. 
At oral argument the Government explained that it included such broad swaths of records in its summons so that it will not need to return to court to ask for them if and when needed. The Court is unpersuaded. Especially where, as here, the Government seeks records for thousands of account holders through a John Doe summons, the courts must ensure that the Government is not collecting thousands and thousands of personal records unnecessarily. Moreover, if the Government later determines that it needs more detailed records on a taxpayer, it can issue the summons directly to the taxpayer or to Coinbase with notice to a named user—a process preferable to a John Doe summons. 
The Court therefore finds that the relevant documents as identified in Request 1 are: (1) the taxpayer ID number, (2) name, (3) date of birth, and (4) address. The remaining items in Request 1 are not relevant at this stage: account opening records, copies of passports or driver's licenses, all wallet addresses, and all public keys for all accounts/wallets/vaults. 
The Court also finds that transaction history, as identified in Requests 4 and 6, is relevant to the Government's legitimate purpose. Coinbase must produce records of account activity including transaction logs or other records identifying the date, amount, and type of transaction (purchase/sale/exchange), the post transaction balance, and the names of counterparties to the transaction. The remaining information sought by Request 4 is not relevant at this time: requests or instructions to send or receive bitcoin and information identifying the users of such accounts where counterparties transact through their own Coinbase accounts/wallets/vaults and their contact information. 
The Court likewise finds the following documents are not necessary to achieve the Government's legitimate purpose at this stage: 
• Request 2: Records of Know-Your-Customer diligence,
• Request 3: Agreements or instructions granting a third-party access, control, or transaction approval authority, and
• Request 5: Correspondence between Coinbase and the user or any third party with access to the account/wallet/vault pertaining to the account/wallet/vault opening, closing, or transaction activity. 
These records may become necessary for a specific account holder once the IRS reviews the relevant records; but for many or even most of the account holders they may never be relevant and thus the Court will not order their production. Accordingly, the 
Government's Petition to Enforce Requests 1, 4 and 6 is GRANTED as set forth above; in all other respects the Petition to Enforce is DENIED.
Based on this analysis, the Court's order is:
Coinbase is ORDERED to produce the following documents for accounts with at least the equivalent of $20,000 in any one transaction type (buy, sell, send, or receive) in any one year during the 2013 to 2015 period:
(1) the taxpayer ID number,
(2) name,
(3) birth date,
(3) address,
(4) records of account activity including transaction logs or other records identifying the date, amount, and type of transaction (purchase/sale/exchange), the post transaction balance, and the names of counterparties to the transaction, and
(5) all periodic statements of account or invoices (or the equivalent).
In all other respects the Petition to Enforce is DENIED. The Court GRANTS John Doe 4's request for judicial notice.
A good article is Joel Rosenblatt, Coinbase Loses Bid to Block U.S. Tax Probe of Bitcoin Gains (Bloomberg Technology 11/29/17), here.  Key excerpts from that article are:

The company said it’s glad that the government and the court narrowed the scope of the summons.
“Coinbase started this process more than 12 months ago, and while today’s result is not the complete victory we hoped for, it does represent a substantial and unprecedented victory for the industry and the hundreds of thousands of customers that would have been unfairly targeted if it weren’t for our action,” the company said in a statement posted on its blog. 
Last year, analysts said similar demands could be made of other digital-currency companies if the IRS widens its investigation. 
“The government has sensed a windfall -- any company that has a plethora of wealthy users might be in the sights,” Charles Hayter, chief executive officer of market tracker CryptoCompare, said in an email. “If there is tax to be paid the government is going to go after it if it makes an example” or a return on investment.
JAT Comments:

1.  Obviously, this is just the opening shot in the IRS's pursuit of unreported tax related to use of Bitcoin.  The IRS will probably seek other information, denied in this order, based on a subsequent showing of need in the context of the information it receives.  I am not sure whether that will require a new summons, this time a regular summons because the account holder will be known (althoug it is possible a JDS may be required as to accounts for which there are indications that the nominal holder  is not the real party in interest) or just a subsequent proceeding to the instant case.

2.  When the information and documents provided will result in investigation (audits or CI administrative investigations) and subsequent litigation is not known, but the time lapse will likely be substantial unless the IRS does a jeopardy assessment.

3.  Obviously, the Government will use the information it obtains in order to shape the scope of future John Doe Summonses.

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