Federal judge's decision could be a blow for the privacy rights of crypto users

The Internal Revenue Service will likely not be penalized for obtaining records on a crypto user from Coinbase or Abra.

A federal judge has implied that an individual may not have the right to force the Internal Revenue Service, or IRS, to expunge financial records it obtains from crypto exchanges.

In granting a motion to dismiss filed in December, Judge Joseph DiClerico in the District of New Hampshire suggested the Internal Revenue Service has no obligation to honor requests to purge crypto transaction records it received from Coinbase or other exchanges regarding information for federal taxes. Dismissed in part for lack of jurisdiction, the civil rights case filed by plaintiff James Harper against IRS commissioner Charles Rettig, the agency, and its officers concluded after almost a year in court.

Today's dismissal said that Harper was not entitled to compensation for damages, or to limit the IRS’ ability to obtain tax information from the exchanges, mainly due to the Anti-Injunction Act. Only applicable to federal taxes, the statute prevents federal courts from exercising jurisdiction in certain cases to hinder "the assessment or collection of any tax.”

"The effect of Harper's requested declaratory and injunctive relief would be to prevent the IRS from assessing Harper's or others' taxes using the information it has obtained through the John Doe third-party process," said Judge DiClerico. "Consequently, his suit, to the extent it seeks injunctive and declaratory relief, is barred by the Anti-Injunction Act."

Harper had an account at Coinbase starting in 2013, first receiving Bitcoin (BTC) deposits as income for consulting work. He claims that he declared the crypto transactions under capital gains on his tax returns until 2016, when he had liquidated and transferred any holdings off the exchange, as well as any BTC on Abra and Uphold.

In 2019, the IRS sent 10,000 letters to crypto investors clarifying the tax filing requirements for digital assets and seemingly suggesting they pay any undeclared back taxes. The letter included a veiled threat of crypto users being "subject to future civil and criminal enforcement activity" should they not properly declare and pay taxes on holdings.

Harper had reportedly not held any crypto on Coinbase since 2016, and the exchange said in its terms of agreement that it would protect users’ personal information from "loss, misuse, unauthorized access, disclosure, alteration, and destruction." However, because he had received the IRS letter, Harper inferred that either Abra or Coinbase — or both — had provided his personal information to the agency. In July 2020, he filed a civil rights lawsuit against the IRS, alleging the tax agency violated his Fourth and Fifth Amendment rights.

Court documents referenced a federal case with Coinbase from 2017, which said the IRS obtaining personal financial information from the exchange was classified as “tax compliance, not research" that “serves the legitimate investigative purpose of enforcing the tax laws against those who profit from trading in virtual currency." That decision, as well as the one today, may suggest that crypto users have little recourse should an exchange like Coinbase turn over their personal information in response to a subpoena or request for information from the IRS.

The judge’s decision comes just three weeks prior to the deadline for filing taxes in the United States, April 15.