On March 9, 2022, U.S. President Joe Biden issued a pivotal Executive Order “outlining the first ever, whole-of-government approach to addressing the risks and harnessing the potential benefits of digital assets and their underlying technology.” Meanwhile, the Securities and Exchange Commission (SEC) considers protecting “main street” investors to be at the heart of U.S. financial regulation. In fact, former SEC Chairman Jay Clayton noted that “serving and protecting Main Street investors is my main priority at the SEC.” Thus, understanding whether “main street investors” or higher income sophisticated investors predominantly use cryptocurrency is central to discussions surrounding cryptocurrency regulation, particularly in light of revelations about the practices of cryptocurrency firms such as Terra/Luna, Three Arrows Capital, and FTX, where crypto investors lost significant amounts.[1]
In our recent paper, we examine the population-level attributes of cryptocurrency users who report their sales to the IRS. Since there is limited data on how many taxpayers actually report their cryptocurrency transactions, we began by graphing the number of cryptocurrency sellers over time in Figure 1. Finding that the number of cryptocurrency reporters is increasing dramatically over time, with less than 7,000 taxpayers reporting cryptocurrency per year between 2013 and 2016, over 120,000 sellers in 2017, and over 1.5 million sellers by 2020. This substantial increase coincides with the price increase of Bitcoin in 2017 and the associated hype, broad media coverage, and surge in public interest. We also found that the average taxable income of cryptocurrency reporters decreased over time, from an average of $299,217 in 2013 to only $76,147 in 2020. These findings give evidence that not only are cryptocurrency sales increasing over time, but the demographics of cryptocurrency sellers is also shifting to lower income investors.
Figure 1.
Note: Figure 1 reports the number of taxpayers who report cryptocurrency each year over our sample period. The number of reporters in trends upward from 4,344 (2013) to over 1.5 million (2020).
One area of interest related to cryptocurrencies is their ability to produce immense wealth as a result of the exponential growth in asset prices. This growth has created a rags to riches story for many early investors. To examine this phenomenon further, we look at individual taxpayers who report large cryptocurrency gains—the cryptocurrency millionaires. We identify taxpayers who had a single tax year with a cryptocurrency gain of $1 million or more and graph the taxable income of these investors over time. We then divide taxpayers into quartiles based on their total taxable income two years before their large cryptocurrency gain.
Figure 2.
Note: Figure 3 graphs average taxable income over time of taxpayers who reported a Cryptocurrency capital gain of at least $1 million. The first cryptocurrency gain for each taxpayer of at least $1 million is set as T-0. We divide taxpayers into quartiles based on their taxable income in T-2. If a taxpayer does not file a return in T-2, we assume that their taxable income is zero. In order to have data to complete quartiles, we only include gains beginning in 2015.
As seen in Figure 2, we see that the large cryptocurrency gain is a shock to income for all quartiles. Although all of the cryptocurrency millionaires maintain higher levels of income after their large cryptocurrency sale, the lowest quartile of income exhibits the largest difference, with average taxable income starting at only $1,666 two years before the large gain but ending at over $2 million two years after the large cryptocurrency gain. Although few individuals have cryptocurrency gains over $1 million in any single year, the results of this analysis provide evidence that at least some low-income taxpayers experienced potentially life-changing levels of income via cryptocurrency investments.
Figure 3.
Note: Figure 3 displays a heat map of the percentage of cryptocurrency sellers in each county in the continental United States. Breakpoints between colors are based off of the decile rankings for 2020 to make colors comparable between graphs (Breakpoints: 0, >0 to 0.362, 0.362 to 0.456, 0.456 to 0.522, 0.522 to 0.576, 0.576 to 0.641, 0.641 to 0.719, 0.719 to 0.851, 0.851 to 1.04, and 1.04 to 2.37).
Finally, we focus to the geographic location of cryptocurrency users. In Figure 3, we map the ratio of cryptocurrency seller tax returns to total number of tax returns by county for the continental United States for even numbered years. In the early sample years (2014 and 2016), we see very few counties have cryptocurrency investors, with many counties having no cryptocurrency investors at all.[2] In 2018, we observe a much broader adoption across the U.S., suggesting that cryptocurrency was becoming more geographically widespread. Notably, some states, such as West Virginia, New Hampshire, and Nevada, appear to still have low cryptocurrency reporting rates even in 2020. West Virginia, which was rated 5th on a list of the “worst” states for cryptocurrency investors in 2022 and had the lowest search interest in Bitcoin in 2020 out of all 50 states, appears to have a relatively low incidence of cryptocurrency sellers.New Hampshire also appears to have low cryptocurrency reporting, and also has below average google trends search volume (rank 41) for 2020. However, somewhat puzzling is the relatively low cryptocurrency taxpayer reporting rates in Nevada, which had the highest Google Trend for Bitcoin out of all 50 states in 2020.
When we examine more granular data, we see that the top cities for cryptocurrency are still located mainly on the coasts, where nine out of ten of the top cities in 2014 and of the top cities in 2020 were on either the east or west coast. This seems to indicate that these cryptocurrency “capitals” have maintained their positions throughout our sample period, and the west coast continues to be the area with the highest concentrations of cryptocurrency sellers. We ultimately conclude that although cryptocurrency has achieved a much wider adoption over the eight-year period of our sample, there is still significant geographic clustering of cryptocurrency users.
As the number of cryptocurrency users increases and cryptocurrencies become a larger part of the financial ecosystem, it is imperative that regulators and rule-makers understand who sells cryptocurrencies. The results of our analyses suggest that despite increasingly widespread cryptocurrency selling, users are distinct from other U.S. investors and from non-investing taxpayers (e.g., certain geographic areas of the U.S. continue to be top cryptocurrency areas). In the full paper, we find the association between certain personal attributes (e.g., gender, income, age, marital and student status) and cryptocurrency sellers are also changing over time, reinforcing the need for timely, broad-based evidence on cryptocurrency sellers. Our objective is to provide timely evidence that can inform investors, lawmakers, and regulators as they seek to navigate the complexities surrounding cryptocurrencies.
Jeffrey L. Hoopes is an Associate Professor at the Harold Q. Langenderfer Scholar of Accounting at the University of North Carolina at Chapel Hill
Tyler S. Menzer is a PhD student in Accounting at the University of Iowa
Jaron H. Wilde is the Director of the RSM Institute of Accounting Education and Research and the Thomas and Margaret Kloet and Arthur Andersen Fellow in Accounting, and Associate Professor at the University of Iowa
All data work for this project involving administrative tax data was done on IRS computers, by authorized IRS personnel. In addition to being a PhD candidate at the University of Iowa, Tyler Menzer is an IRS employee under a Student Volunteer agreement through the Joint Statistical Research Program (JSRP). We thank John Guyton, Robert Hayden, and Anne Herlache of the IRS for help and guidance with this project and we thank Barry Johnson, Pat Langetieg, Alicia Miller, and Michael Weber for facilitating this project through the JSRP. We appreciate helpful comments from Andrew Belnap, Thomas Omer, Scott Rane(discussant), Brian Williams, and workshop participants at the U.S. Treasury Office of Tax Analysis, the University of Iowa, and the 2022 AAA Annual Meeting. The views expressed here are ours alone and do not reflect the views of the Internal Revenue Service.
[1] We note that our sample period does not include any losses from the referenced firms as we end our analysis in 2020.
[2] Due to restrictions on IRS data and bias in small counties, we set any county with less than 10 cryptocurrency reporters or less than 1,000 tax returns to 0.
