The Tax Traps Behind Meme Coin Frenzy: A Cold Reflection on the $140 Billion Market

In 2024, Bitcoin took center stage on the world financial arena, while also becoming a year of celebration for meme coins. Data shows that about 75% of meme coins were born this year, and by early December, meme coin trading had increased by over 950%, with a total market value surpassing 140 billion USD. This wave not only brought a new round of excitement to the crypto market but also attracted more ordinary investors into the realm of crypto assets.

The meme coin craze reminds people of the ICO boom around 2017. At that time, the emergence of the ERC-20 standard significantly reduced the cost of issuing tokens, leading to a proliferation of projects yielding hundredfold and thousandfold returns, with billions of dollars flooding into the ICO market. This year, a batch of launch platforms represented by Pump.fun has made the issuance of tokens even simpler and fairer, sparking a meme coin storm that continues to this day. Although there are many differences in technology and logic between ICOs and meme coin issuance, the tax compliance risks faced by investors and projects may be similar. In the last ICO boom, many investors and project parties encountered tax issues related to ICOs. Now, as the meme coin craze continues, tax compliance issues will again become a core concern for crypto asset investors and meme coin issuers. This article will review the Oyster case and the Bitqyck case, using these two tax evasion cases related to ICOs as examples to provide insights on tax compliance for crypto investors in the meme coin craze.

1. Two Typical ICO Tax Evasion Cases

1.1 Oyster Case: Coin sales revenue not declared, founder sentenced to four years in prison

The Oyster Protocol platform was founded in September 2017 by Bruno Block (real name Amir Bruno Elmaani) with the aim of providing decentralized data storage services. In October 2017, the platform began its ICO, issuing a token called Pearl (PRL). The Oyster Protocol claims that the purpose of PRL is to create a win-win ecosystem where both websites and users can benefit from data storage, and achieve value exchange and incentive mechanisms through PRL. Founder Bruno Block publicly promised that the supply of PRL would not increase after the ICO, and the smart contract would be "locked".

Through the ICO, the Oyster Protocol raised approximately $3 million initially and used these funds to launch the mainnet, officially starting data storage services. However, in October 2018, founder Bruno Block exploited a smart contract vulnerability to privately mint a large amount of new PRL and sell it on the market, causing the price of PRL to plummet, but Bruno Block personally gained a significant profit from this.

The sharp drop in PRL prices has drawn the attention of regulatory authorities, leading to a civil lawsuit filed by the SEC regarding the issue of defrauding investors, while the prosecution has brought criminal charges against Bruno Block for tax evasion. On the tax issue, prosecutors believe that Bruno Block not only undermined investor trust but also violated tax obligations on millions of dollars in cryptocurrency profits. Between 2017 and 2018, Bruno Block submitted only one tax return in 2017, claiming he earned about $15,000 from his "patent design" business, and did not submit a tax return in 2018, nor reported any income to the IRS, while spending at least $12 million on properties, yachts, and other expenditures.

Ultimately, Oyster founder Bruno Block admitted to tax evasion in court, signing a plea agreement in April 2023, and was sentenced to four years in prison for tax evasion, along with compensating the tax authorities approximately 5.5 million dollars to cover the tax loss.

1.2 Bitqyck case: ICO transfer income not taxed, two founders sentenced to a total of eight years in prison.

Bitqyck is a cryptocurrency company founded by Bruce Bise and Samuel Mendez. The company first launched the Bitqy coin, claiming to provide an alternative path to wealth for "those who missed out on Bitcoin," and conducted an ICO in 2016. Bitqyck promised investors that each Bitqy coin would come with 1/10 of a share of Bitqyck common stock. However, in reality, the company shares were always held by founders Bise and Mendez, and the company never allocated the promised shares and corresponding profits to investors. Subsequently, Bitqyck launched a new cryptocurrency called BitqyM, claiming that purchasing this coin would allow investors to join the "Bitcoin mining business" by paying to power Bitqyck's Bitcoin mining facilities in Washington State, but such mining facilities did not actually exist. Through false promises, Bise and Mendez raised $24 million from over 13,000 investors through Bitqyck, using most of the funds for personal expenses.

The SEC filed a civil lawsuit against Bitqyck for defrauding investors. In August 2019, Bitqyck admitted to the facts and reached a civil settlement with the SEC, with Bitqyck and its two founders collectively paying approximately $10.11 million in civil penalties to the SEC. The prosecution continued to press tax evasion charges against Bitqyck: from 2016 to 2018, Bise and Mendez earned at least $9.16 million through the issuance of Bitqy and BitqyM, while underreporting related income to the IRS, resulting in over $1.6 million in tax losses; in 2018, Bitqyck earned at least $3.5 million from investors but did not submit any tax returns.

Ultimately, regarding tax issues, Bise and Mendez pleaded guilty in September and October 2021, respectively, and were each sentenced to 50 months in prison for tax evasion (totaling about eight years for both), and each was held jointly liable for 1.6 million dollars.

2. Detailed Explanation of Tax Issues Involved in the Two Cases

In the cases of Oyster and Bitqyck, one of the core issues is the tax compliance of ICO revenues. In this emerging fundraising format, some issuers obtain huge revenues through fraudulent means against investors or other improper methods, yet report less income or fail to file tax returns, leading to tax compliance issues.

How does US law determine tax evasion?

In the United States, tax evasion is a felony, referring to the deliberate use of illegal means to reduce tax liabilities, typically manifested as concealing income, inflating expenses, failing to report, or not paying taxes on time. According to Section 7201 of the U.S. Federal Tax Code, tax evasion is a federal crime, and once determined to be a tax evader, individuals may face up to 5 years in prison and fines of up to $250,000, while entities may face fines of up to $500,000. The specific penalties depend on the amount and nature of the tax evasion.

To constitute tax evasion, the following conditions must be met: (1) a large amount of tax is owed; (2) active tax evasion behavior has been implemented; (3) there is subjective intent to evade taxes. Investigations into tax evasion typically involve tracing and analyzing financial transactions, sources of income, and asset flows. Especially in the field of cryptocurrencies, due to their anonymity and decentralization features, tax evasion is more likely to occur.

2.2 Tax-related activities in the two cases

In the United States, various stages of an ICO may involve tax obligations, with project parties and investors bearing different tax responsibilities at different stages. On one hand, project parties must comply with tax requirements when raising funds through an ICO. The funds raised in an ICO can be considered as sales revenue or capital fundraising. For instance, if the funds raised in the ICO are used to pay for company operating expenses, develop new technologies, or expand business, then these funds should be regarded as company income, and taxes must be paid according to the law. On the other hand, investors who acquire tokens through the ICO also have tax obligations. Especially when the tokens obtained through the ICO bring rewards or airdrops, these rewards will be considered capital gains and subject to capital gains tax. In the United States, the value of airdropped and rewarded tokens is usually calculated based on their market value and reported for tax purposes. When investors hold tokens for a period of time and then sell them, the profits gained from selling these tokens will also be taxed as capital gains.

Objectively speaking, both the Oyster case and the Bitqyck case involved behaviors that not only infringed on the interests of investors and constituted fraud, but also indeed violated U.S. tax laws to varying degrees, with the tax evasion behaviors in the two cases being somewhat different.

2.2.1 Tax Evasion in the Oyster Case

In the Oyster case, after the ICO of PRL, Bruno Block, the founder of the Oyster Protocol platform, exploited a smart contract vulnerability to privately mint a large amount of PRL and sell it, gaining huge profits. Bruno quickly accumulated wealth by selling PRL but failed to fulfill related obligations regarding tax issues, violating the provisions of Section 7201 of the Federal Tax Code.

In this case, Bruno Block's actions are unique because he engaged in the minting of Pearl before selling it. It goes without saying that capital gains tax should be paid on the proceeds from the sale of the tokens, but there is no consensus on whether the act of minting tokens should be taxed. Some argue that minting tokens and mining are both ways to create new digital assets through computation, therefore the income from minting tokens should also be taxable. Whether the income from minting needs to be taxed should depend on the market liquidity of the tokens. When there is no liquidity in the token market, it is difficult to determine the value of the minted tokens, making it impossible to accurately calculate income; however, if the market has a certain level of liquidity, these tokens will have market value, and the income from minting should be considered taxable income.

2.2.2 Tax Evasion in the Bitqyck Case

Unlike the Oyster case, the tax evasion in the Bitqyck case involved false promises to investors and illegal transfers of raised funds. After successfully raising funds through the ICO, Bitqyck's founders Bise and Mendez failed to fulfill the promised returns on investment and instead used most of the funds for personal expenses. This transfer of funds effectively equated to converting investors' funds into personal income, rather than being used for project development or fulfilling investor interests. The key tax issue in the Bitqyck case revolves around the illegal transfer of funds raised through the ICO and unreported income.

According to the relevant provisions of the U.S. Internal Revenue Code, both legal and illegal income are considered taxable income. The U.S. Supreme Court also confirmed this rule in the case of James v. United States (1961). U.S. citizens must report illegal gains as income when filing their annual tax returns, but such taxpayers typically do not report this income, as reporting illegal income may trigger investigations into their illegal activities by relevant authorities. Bise and Mendez failed to report the illegal gains transferred from funds raised through the ICO as income as required, which directly violated the relevant provisions of tax law, ultimately leading to criminal liability.

3. Tips and Suggestions

With the popularity of meme coins, many people in the crypto industry have gained huge returns. However, as indicated by previous ICO tax evasion cases, in the meme coin market where wealth myths are created daily, we not only need to focus on technological innovation and market opportunities but also pay attention to the important matter of tax compliance.

First, understand the tax responsibilities of issuing meme coins to avoid legal risks. Although issuing meme coins does not directly generate revenue like an ICO through fundraising, when the tokens purchased early by meme coin issuers and investors appreciate in value, they should still pay taxes on the relevant capital gains upon sale. At the same time, although anyone can anonymously issue meme coins on the blockchain, this does not mean that issuers can evade tax inspections. The best way to avoid tax law risks is to comply with tax laws rather than seeking more effective anonymous means on the blockchain.

Second, pay attention to the trading process of meme coins and ensure that transaction records are transparent. Due to the highly speculative nature of the meme coin market and the continuous emergence of various new projects, investors may engage in meme coin trading very frequently, leading to a multitude of transaction records. Cryptocurrency investors need to maintain detailed records of a series of transactions, especially using professional cryptocurrency management and tax reporting software, to ensure that all purchases, transfers, and profits are traceable, and to receive proper tax characterization during tax filings, thereby avoiding potential tax disputes.

Third, keep up with tax law developments and collaborate with professional tax experts. The tax law systems regarding crypto assets in various countries are still in their infancy, and there will be frequent adjustments, with key changes potentially having a direct impact on actual tax burdens. Therefore, both investors and issuers of meme coins should maintain a high level of attention to the tax law developments in their respective countries and seek professional tax advice if necessary.