According to tax experts, Ethereum (ETH) hodlers who don’t play their cards following the Ethereum Merge could be facing a large tax bill.
The Ethereum blockchain will transition from its current proof of work (PoW), consensus mechanism, to proof-of stake (PoS) in September 2015. This is a move that aims to improve the network’s environmental impact.
The Merge could lead to a contentious hardfork. This will allow ETH holders to get duplicate units of hard-forked Ethereum tokens. It is similar to the 2016 Ethereum Classic hardfork.
Miles Fuller, Head of Government Solutions at TaxBit, said that the Merge has interesting tax implications for those who experience a hard fork.
Tax purposes, the biggest question is whether Merge will lead to a hard fork in chain-splitting.
Fuller explained that if it does, there are no tax implications. He also noted that the PoW ETH will become the PoS ETH, and everyone continues their merrymaking.
But, if a hard fork happens, which means that ETH holders receive duplicate PoW tokens, then a “variety” of tax impacts could occur “depending on how supported the PoW ETH Chain is” and where the ETH was held at the time the fork takes place.
Fuller cites IRS guidance as a source for ETH that is held in user-owned wallets on-chain. It states that any PoW ETH tokens will be considered income and be valued at the time they are received.
Fuller said that the situation could be different for ETH stored in custodial wallets such as exchanges depending on whether the platform decides support the forked PoW ETH Chain.
“How exchanges and custodians handle forks” is usually covered in your account agreement. If you’re not sure, it is worth reading.
If the exchange or custodian does not support the forked chains, you will likely have no income and may have missed out on a bonus. To avoid this, you can move your holdings to an unsolicited wallet pre-Merge in order to get any tokens or coins resulting from a chain-splittingfork.” he said.
According to Miles Brooks, CoinLedger Director for Strategy, an Aug. 31 tweet, the PoW token’s performance can have an impact on the tax bill.
“If the tokens’ value drops significantly after the PoW Fork (and after you have full control over them), you might have to pay a tax bill but not enough assets.
Brooks suggested that it might be in the best interest of an investor to sell some tokens after receiving the forked coin. This will ensure that the minimum tax bill is covered.
7/ What should you do? You’ll want to find out if your ETH PoW is possible. If it does, it’s a good idea to check if you are eligible.
— CoinLedger (@CoinLedger), August 30, 2022
Some exchanges are pushing for an Ethereum hard fork. This is because Ethereum miners won’t be able to fork without it.
At the 5th Ethereum Community Conference, held in July, Vitalik Buterin suggested that these miners could instead return to Ethereum Classic.
Related:3 reasons why Ethereum PoW hardfork tokens will not gain traction
Contrary to what the CoinLedger article suggests, the post-merge Ethereum won’t be called ETH 2.0 but simply ETH/ETHS with any potential forked token referred as ETHW.
Any token claiming to be ETH 2.0 post Merge should be avoided by crypto investors
Poloniex claims to be the first cryptocurrency exchange to support Ethereum Classic and Ethereum Classic. It has also supported a hard fork, and already offers trading for ETHW.
Cointelegraph was informed by Bybit, a cryptocurrency exchange. They stated that In the event of forked tokens Bybit’s security and risk management teams have established criteria to determine if a PoW token will be listed on their exchange.
Bybit asserts that exchanges that have already listed ETHW tokens are putting profit over user safety and warns traders not to move their ETH to PoW token-supporting exchanges due to security and volatility.
We warn traders that potential Ethereum PoW Forks could be highly volatile and may pose increased security risks. Token exchanges that have already listed tokens for possible PoW forks may be putting profit before safety.