Schrödinger’s Currency: How Virtual Currencies Complicate the RIC and REIT Qualification Requirements

How to Cite

Pond, L. D. (2018). Schrödinger’s Currency: How Virtual Currencies Complicate the RIC and REIT Qualification Requirements. Columbia Journal of Tax Law, 9(2), 229–249.


Internal Revenue Code (hereinafter “I.R.C.” or “the Code”) provisions governing Regulated Investment Companies (RICs) or “mutual funds” predate the internet by nearly half a century. The Investment Company Act of 1940 (hereinafter “the ‘40 Act”) followed four years thereafter. Twenty years later, I.R.C. § 856 was added; it contains very similar qualification requirements to Section 851 but is only applicable to investments in Real Estate Investment Trusts (REITs). Computers were in their infancy when RICs and REITs changed the way individuals invested. At that time, no one could have predicted the impact the internet would have on the world.

Even more recently, virtual currency has emerged as a lucrative new way for individuals to invest their real-world cash, but tax policy has not caught up. In 2014, the Internal Revenue Service (hereinafter “the Service” or “the IRS”) declared that virtual currency will be treated as property—not currency—for federal income tax purposes. Other administrative agencies have taken a markedly different stance, classifying virtual currency as a commodity, or a security, although the Securities and Exchange Commission (SEC) has not yet taken a public position on the regulation of virtual currency. None of these characterizations adequately define virtual currency for the RIC or REIT context. The Code does not yet allow a security which is not regulated by the ‘40 Act to constitute a security for the purposes of the RIC or REIT qualification requirements. To qualify as a tax-favored RIC or REIT, (1) the entity must derive a high percentage of its income from certain enumerated sources (hereinafter “good” income), and (2) a certain percentage of its assets must be represented by cash, securities, and, in the case of REITs, real estate (hereinafter “good” assets).

This paper explores the origin and justification of the “good” income and “good” asset qualification requirements or “tests.” The tests’ complete dependence on the ‘40 Act to classify qualifying securities can hinder the Service’s ability to adjust the tax rules to technological advancements. The paradigm should be driven by the Service’s classification of securities and other income and assets, wherein the ‘40 Act supplements the Code’s RIC and REIT qualification requirements but does not dictate them. As new technologies manifest, the Service will be able to address them quickly, thereby fostering investment in new technologies without the confusion or abuse attendant when technological advancements and the Tax Code collide.