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@dbtaxsolutions wrote:

how is buying a contract not an event?

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From what you have told us, your client did not "buy" a contract.  Neither is the income from processing any smart contract.

There is no doubt your client is receiving income in ETH from this "system".  This income is reportable and taxable.  Fundamental to that is the nature and character of this income because that determines how that income would be subject to tax (e.g. as ordinary income or capital gain).  And this is relevant whether or not the taxpayer is in a trade or business.

For the activity to constitute a Sec. 162 ToB, apart from having a profit motive, the activity must generally be regular, continual, and substantial.  If it doesn't rise to the level of a Sec. 162 ToB, especially if the taxpayer does not have material participation, losses could then be limited by PAL.  And it's not even a trade or business, deduction for expenses may then be limited by Sec. 212.

The amount of profit one generates from an activity is not determinant of whether that activity is a ToB.  Case laws requires that facts and circumstances must be assessed, particularly in relation to the factors discussed above.  As the IRS reiterated, the same set of tax rules and principles will apply to crypto transactions.

How the other participants may report their income from this "system" and the positions they take should not be a material consideration for you or your clients, particularly since most are not tax professionals who are supposed to understand tax law and bound by Circular 230.

We can't tell you exactly what to do but we have hopefully raised enough questions for you to contemplate since you are the most familiar with your client's situation and should have (or will gather) all the necessary facts.