Crypto rewards received before an account freeze are taxable in the year they’re received, even if holders can’t access their funds later, the IRS says.
IRS Clarifies Tax Rules for Digital Assets in Locked Accounts
The Internal Revenue Service (IRS) issued a memorandum in October, addressing the tax obligations of digital asset rewards in accounts frozen due to bankruptcy. The guidance, sent to Michael R. Fiore of the IRS Small Business/Self-Employed division, examined a hypothetical taxpayer referred to as “Taxpayer A” who held cryptocurrency in a bankrupt platform’s account and received rewards, such as staking bonuses, prior to the account freeze.
According to the IRS:
Taxpayer A received the rewards in Year 1 prior to the account being frozen and must include the fair market value of the rewards, at the date and time of receipt, in gross income in Year 1 … even though the account remains frozen as of December 31st of Year 1.
This interpretation follows Sections 61 and 451 of the Internal Revenue Code, which require income to be recognized in the year it is received, regardless of later inaccessibility.
The IRS further explained that “during Year 1, Platform X froze its customers’ accounts and filed a Chapter 11 bankruptcy petition. As a result of the account being frozen, Taxpayer A was unable to sell, exchange, or transfer any of the digital assets contained in the account, including credited rewards, from the date the account was frozen through December 31st of Year 1.” Since the rewards were credited before the freeze, however, they remain taxable in that year.
Regarding the valuation of rewards, the IRS stressed that its approach bases the value on the date when the taxpayer first accessed the rewards, stating:
The fair market value of the rewards is determined at the date and time the rewards were credited to Taxpayer A’s account.
Only rewards not yet credited before the freeze, such as those pending due to lockup periods, are exempt from taxation until accessible. This ruling highlights the necessity of understanding tax obligations in cases of digital asset holdings, especially as platform bankruptcies and account freezes increase.
