Bitcoin CPA Client Verification

CPA Verification of Client Bitcoin Ownership

This memo is published by CustodyStress, an independent Bitcoin custody stress test that produces reference documents for individuals, families, and professionals.

Traditional Confirmation Procedures

Bitcoin CPA client verification becomes relevant when accountants prepare tax returns listing bitcoin holdings or transactions. Tax compliance requires accurate reporting of capital gains, cost basis, and year-end positions. CPAs traditionally verify client-provided information through independent confirmation with third parties like banks and brokerages. Bitcoin held in self-custody has no third party to confirm balances or ownership.

The CPA receives client assertions about bitcoin holdings. The tax return depends on these assertions being accurate. Professional standards expect verification when material amounts are involved. The verification methods that work for traditional assets do not transfer to self-custody bitcoin, creating gaps between professional expectations and practical capability.

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Traditional Confirmation Procedures

Standard audit procedures involve requesting confirmations directly from institutions. The CPA sends a letter to the client's bank asking for year-end balances. The bank responds independently, confirming amounts without client involvement. This triangulation prevents client misrepresentation from going undetected.

Brokerage confirmations work similarly. The statement shows stock holdings and values. The CPA contacts the brokerage directly, receives independent verification, and compares this to client-provided statements. Discrepancies surface through this process. The CPA can rely on confirmed balances when preparing returns or providing opinions.

Bitcoin in self-custody has no institution to contact. The blockchain shows transaction history and current balances at addresses. These balances are publicly visible but not attributed to specific individuals. Anyone can view an address balance. No one can confirm who controls the private keys for that address through institutional inquiry.

The client provides an address and asserts ownership. The CPA can verify the blockchain shows the stated balance at that address. This verification confirms the address contains bitcoin. It does not confirm the client controls the address or that the address represents the entirety of the client's holdings. The client could be omitting other addresses or claiming addresses they do not actually control.

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The Ownership Proof Problem

Proving ownership of bitcoin requires demonstrating control over private keys. The holder can sign a message using the private key, producing cryptographic proof they control the address. This signed message proves control at the moment of signing. It does not prove ongoing control or exclusive control.

Requesting signed messages from clients creates security risks. The client must expose private key handling procedures to create the signature. This exposure increases attack surface during tax preparation. Sophisticated holders resist demonstrating key control to accountants for valid security reasons. Less sophisticated holders may not know how to create signed messages or may execute the process incorrectly.

Signed messages prove the signer had access to the private key at signing time. They do not prove the key remains under sole client control. A compromised key can produce valid signatures. A key shared with others can produce signatures without exclusive ownership. The signed message answers a different question than ownership verification requires.

Exchange-held bitcoin allows traditional confirmation procedures with the exchange. The CPA contacts the exchange's accounting department requesting balance confirmation. This process works when the exchange cooperates and maintains responsive confirmation procedures. Smaller exchanges or foreign platforms may not respond to confirmation requests. Exchange insolvency after year-end but before tax filing creates gaps where confirmed balances no longer exist.

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Cost Basis Verification Gaps

Capital gains calculations require accurate cost basis. The client claims they purchased bitcoin at a specific price on a specific date. The CPA needs to verify this claim to properly calculate taxable gains or losses. Traditional verification involves examining purchase confirmations from brokerages or wire transfer records showing payment to sellers.

Bitcoin purchased through peer-to-peer transactions may lack institutional documentation. The client says they bought bitcoin for cash from someone they met. No receipt exists. No institutional record confirms the transaction. The client's cost basis assertion is unverifiable through normal procedures.

Even exchange purchases present verification challenges. The exchange provides a transaction history. This history shows transactions the exchange recorded. It does not prove these were the client's only bitcoin purchases. The client could have purchased elsewhere and omitted those transactions from reporting. The CPA verifying exchange records confirms what the exchange shows, not what the client's complete bitcoin acquisition history contains.

Blockchain analysis can trace bitcoin movement between addresses. This tracing shows when bitcoin moved and where it went. It does not show purchase prices or identify transaction parties. An address received bitcoin at a certain time. The price paid and the identity of the buyer remain unknown without external documentation the blockchain does not contain.

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The Estate Return Scenario

An executor hires a CPA to prepare estate tax returns. The estate includes bitcoin. Form 706 requires listing all assets at date-of-death value. The CPA needs to verify the estate actually contains the listed bitcoin and value it appropriately.

The executor provides addresses and claims the decedent owned the bitcoin at those addresses. The CPA examines the blockchain and confirms the addresses held bitcoin on the date of death. This confirms the addresses existed and contained value. It does not confirm the decedent controlled those addresses or that these addresses represent the complete bitcoin holdings.

The decedent's private keys remain with the decedent's documentation. The executor may or may not have located all relevant keys. Bitcoin at addresses the executor has not discovered will not appear in the estate return. The CPA has no method to verify completeness. Traditional estate verification involves searching decedent records for bank statements and brokerage communications. Bitcoin custody documentation may not resemble traditional financial records.

Valuation for estate tax purposes uses fair market value at death. Bitcoin trades on many exchanges at slightly different prices. The CPA selects a price from a reputable exchange for the death date. This price represents what bitcoin was trading for generally. It does not reflect whether the specific bitcoin could actually be sold for that price, which depends on whether the estate can access the private keys.

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When Clients Cannot Prove Holdings

A client claims substantial bitcoin holdings but resists verification procedures. They assert privacy concerns or security risks prevent demonstrating control. The CPA faces a choice between preparing returns based on unverified assertions or qualifying the engagement to exclude bitcoin verification.

Preparing returns on unverified information exposes the CPA to allegations of accepting false statements. If the IRS audits and the bitcoin holdings were fabricated to generate false losses or hide other income, the CPA's acceptance of unverified claims becomes relevant to professional liability and potential penalties.

Qualifying the engagement with explicit statements that bitcoin holdings are unverified protects the CPA but may not satisfy the client. The client wants their tax return to reflect their actual financial situation including bitcoin. A qualification stating "bitcoin holdings not verified" may trigger IRS scrutiny or undermine the purpose of professional tax preparation.

Declining engagements where bitcoin CPA client verification is impossible limits the practice's client base. As bitcoin adoption grows, more clients hold some bitcoin. A blanket policy of refusing clients with unverifiable holdings excludes legitimate clients who have real bitcoin positions but valid reasons for not demonstrating key control to accountants.

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Third-Party Reporting Limitations

Exchanges report transactions to the IRS through Form 1099-B similar to brokerage reporting. This reporting provides the IRS with independent information to check against taxpayer returns. The CPA can rely on 1099-B forms as verification that reported transactions occurred as stated.

Self-custody bitcoin transactions generate no third-party reports. The holder sells bitcoin peer-to-peer or moves it between personal wallets. These transactions create tax obligations but no automatic reporting to the IRS. The CPA depends entirely on client disclosure with no independent reporting to verify completeness.

Some foreign exchanges do not provide U.S. tax reporting. The client trades on these platforms and reports the activity themselves. The CPA has no 1099 forms to verify the client's transaction summary. Foreign platform records may be in other languages or use unfamiliar formats that complicate verification even when the client provides them.

Mixing services and privacy-focused transactions deliberately obscure transaction details. The holder used these tools for legitimate privacy reasons. The tools also make it impossible for the CPA to trace transaction history or verify the client's explanation of fund flows. What the client describes may be accurate, but verification through blockchain analysis is blocked by the privacy techniques the client employed.

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Multi-Signature Verification Complexity

Multi-signature wallets require multiple parties to authorize transactions. A business holds bitcoin in a two-of-three multisig arrangement. The company's tax return must report this bitcoin. The CPA needs to verify the company controls sufficient keys to access the funds.

Verifying multisig control requires confirming the company holds enough keys from the total required. The company claims it holds two of three keys. The CPA can verify the blockchain shows the address uses a two-of-three script. Confirming the company actually possesses two specific keys requires the company demonstrating key control, which reintroduces the signature request problem.

Co-signers may include third-party services or business partners. The company's access depends on these other parties remaining cooperative. A dispute with a business partner or custody service bankruptcy could eliminate access. The year-end balance verification shows bitcoin exists. Whether the company can actually access it depends on relationships and agreements the balance confirmation does not reveal.

Inheritance of multisig holdings compounds verification problems. The decedent held one key in a multisig wallet. The estate's interest in the bitcoin depends on whether other keyholders cooperate. The CPA verifying estate assets confirms the multisig address contains bitcoin. The estate's ability to recover any value requires information about the other keyholders and their willingness to sign release transactions.

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The Professional Standard Gap

Professional auditing standards describe verification procedures for various asset types. These standards were written when assets existed at institutions that respond to confirmation requests. Guidance on bitcoin verification is limited and evolving. CPAs face uncertainty about what procedures satisfy professional obligations.

The Statements on Standards for Tax Services address the level of verification required for tax return preparation. These standards generally allow CPAs to rely on client-provided information without independent verification for most items. Explicit knowledge that information is incorrect requires inquiry, but suspicion alone does not require investigation beyond the client's representations.

Material bitcoin holdings may trigger heightened scrutiny requirements. If bitcoin represents a substantial portion of net worth or generates significant capital gains, the CPA may need more than client representations. But what additional procedures satisfy this requirement remains unclear when traditional verification methods do not apply.

Peer review and quality control inspections examine whether CPAs followed adequate procedures. Reviewers examining bitcoin-inclusive returns may question verification documentation. The CPA must explain what procedures were performed and why those procedures were considered adequate. Absent clear professional standards, this explanation relies on judgment that could later be questioned.

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When Verification Timing Matters

Year-end balance confirmations traditionally occur shortly after year-end. The CPA requests confirmations in January for the preceding December 31 balance. Institutions respond within weeks. The timing is compressed but manageable within normal tax season workflows.

Bitcoin balance verification faces timing complications when holders use complex custody arrangements. Requesting signed messages or key demonstrations requires coordination with clients during tax season when both parties are busy. Delays in obtaining verification extend tax preparation timelines and may require filing extensions.

Market volatility creates verification staleness. The CPA verifies the client controlled certain bitcoin on December 31. By April 15 when the return is filed, market conditions and possibly custody arrangements have changed. The verified information was accurate at year-end but may no longer reflect current reality, though this timing gap exists for all assets and is not unique to bitcoin.

Deceased taxpayer final returns present acute timing issues. The death occurs mid-year. The CPA prepares the final Form 1040 showing bitcoin ownership up to death. Verifying the decedent's bitcoin holdings after death requires locating custody documentation the decedent maintained. If this documentation is not found quickly, the tax filing deadline arrives before verification is complete.

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Client Reliance on CPA Verification

Clients sometimes assume CPA preparation of their return constitutes verification of the information provided. They expect the CPA caught errors or would have questioned suspicious items. This expectation extends to bitcoin reporting where the client provided addresses and transactions assuming the CPA verified accuracy.

Engagement letters specify the CPA's responsibilities and limitations. These letters state that clients are responsible for information accuracy and the CPA is not auditing the return. Many clients do not read or fully understand these disclaimers. When problems arise later, clients claim they relied on the CPA to verify their bitcoin reporting.

IRS audits of bitcoin positions often occur years after filing. The client preserved documentation poorly and can no longer demonstrate basis or transaction details they reported. They expect the CPA's workpapers to contain verification documentation. The workpapers show the client's representations but no independent verification because none was possible. The client's expectation of verification was never satisfied.

The CPA's signature on the return creates appearance of verification even when the preparer conducted no independent verification of bitcoin holdings. Third parties including lenders, insurers, or divorce courts may assume CPA-prepared returns are reliable for all reported items. Bitcoin amounts listed were never independently confirmed but appear no different from verified traditional assets on the return.

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Assessment

Bitcoin CPA client verification faces fundamental limitations that do not exist for traditional assets. CPAs cannot independently confirm client bitcoin ownership through institutional contact. Blockchain examination confirms address balances but not control or completeness. Signed messages prove momentary key access without confirming ongoing exclusive ownership.

Cost basis verification depends on external documentation that may not exist for peer-to-peer purchases. Estate returns include bitcoin the CPA cannot confirm the decedent controlled. Third-party reporting exists for exchange transactions but not self-custody activity. Multi-signature arrangements require verifying key possession the CPA has no standard procedure to confirm.

Professional standards provide limited guidance on bitcoin verification adequacy. Verification timing pressures tax season workflows. Client expectations of verification exceed what CPAs can actually deliver through available procedures. The gap between professional verification standards developed for institutional assets and the reality of self-custody bitcoin creates persistent uncertainty about what bitcoin CPA client verification procedures satisfy professional obligations when material amounts are involved.

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System Context

Examining Bitcoin Custody Under Stress

Bitcoin SIMPLE IRA Custody Obligation Gaps

Bitcoin State Examination

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