How? The public block chain only contains records of how coins moved from one wallet to another. It doesn't have any information about who those wallets belonged to, or what the terms of the transaction were. Maybe the coins were sold for fiat currency, or maybe they were compensation for goods and services. There's no way to know just from the information in the blockchain.
[EDIT] Let me make this more clear: it is easy to anonymize BTC. It is so easy that the technique even has a name (bitcoin tumbling) and companies that will do it for you as a service (e.g. https://bitlaunder.com). (I thought this was common knowledge around here.) In the face of these facts, how is the IRS going to enforce the tax code against a someone who tumbles their coins?
"If taxpayers cannot provide their basis in the property, the IRS will deem it to be zero."
That means 100% of the sale price of an asset is treated as gains.
That is not true. In fact, the IRS does not care about the vagaries of bitcoin wallets, or the blockchain. The IRS cares that you got money that you didn't have before.
As for anonymity... you lose it when you associate a bank account to get liquidity (as mentioned by GP: "nominate a bank account"). Of course, this assumes you can't get liquidity in some other way... but that's non-trivial with large qty of BTC.
Yes, that's true, but that not enough to enforce the tax code. (See the update to my OP.)
Uh, yes it is. Money came into your bank account, and you'll need to explain its origin if the IRS audits you.
Do you honestly believe the IRS would just give up on enforcing the law because you used a tumbler before you converted the bitcoins to USD and put the money in your bank account? The fact that you have the money in your account at the end of that process is what really matters.
If you mined or gained your bitcoin by buying it through local bitcoin, the taxman might give you some trouble, but generally, the presumption of good will and non-guilty still applies, meaning that if they don't agree, it kind of their job to prove that you are guilty of something (ie: you got your bitcoin through ransomware)
Well, yeah, obviously. The issue is not how to deal with honest actors, it's how to deal with dishonest ones. (See the update to my OP.)
Sorry about that. I would go back and edit my OP but it's locked already.
They can simply ask you to provide the evidence yourself, and if you cannot, then tax the full rate on the full amount.
>Assuming I'm willing to pay the tax if it's due has anyone had trouble with authorities questioning your new cash pile say if before this you had no real money and lucked out on Bitcoin?
If you obtain large amounts of money, then you (presumably) will want to use it to obtain large amounts of goods and services. You can hide your income, but it's harder to hide your spending.
If you spend it all on food, booze, drugs and minor items, then they don't care about you, since the amounts aren't that large.
If you want to buy mansions, flashy cars, high end jewelry and ownership in companies, then they have evidence of you spending much more money than you have declared income. At that point, it becomes your problem - carefully tumbling your coins simply gives the IRS evidence that instead of treating your situation as "forgot to declare that income" (fines) they can prove that you took explicit steps to hide and disguise that income, which carries a risk of jail for tax evasion.
Indeed, in many ways they make things worse for users who attempt to gain anonymity by using it. Once the addresses which are used by the tumbler service are identified it is pretty easy to identify other suspicious transactions.
In practice, what happens is that they require you to keep records tracing your assets from when you get them to when you sell them, and assume a basis of 0 (i.e. capital gains gets taxed on the entire value of the coin) otherwise.