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It’s never too early to spark up the conversation on everyone’s favorite time of year: tax season.
And now, with the government in a state of disarray after the longest shutdown in history ended on January 25 – with another potential shutdown threatened by Trump on February 15 – everyone is trying to make sure that they’re doing their due diligence by cooperating and communicating with the Internal Revenue Service.
If you’ve ever possessed crypto, you’ve probably thought about how it’s affected by the grubby hands of the IRS. Or maybe you haven’t, we don’t know.
Regardless, it’s good to know that, yes, the IRS labels virtual currency as a taxable property.
What follows as a result of this? We’ll include everything you need to know about crypto and taxes so you can navigate this space confidently and legally.
Breaking it Down
Since the IRS has lumped in your cryptocurrency with real estate, it’s important to understand how property tax works. First and foremost, any sort of income that you get from transacting virtual currency is subject to both short-term and long-term tax rates. This makes crypto a capital asset. Other examples of capital assets include stocks and bonds.
And just like that “cryptocurrency” turns into “cryptoproperty.”
Since the IRS has specified that digital currency isn’t actually, well, “currency,” the rules for taxation are much different. If you have a capital gain, you’ll need to pay taxes. If you’ve taken a loss, then congrats, your tax bill can be lowered.
When filing, the IRS will need to know a few things.
First, when you bought it is important to record first. Then, figure out how much you paid for it. After that, provide the date when you sold it and record what you received in return.
Re-read that for a moment, then burn the following into your trading and investing habits: always record everything. This is difficult to do at the beginning of the year so be sure to keep a detailed log as you do business.
Be transparent. As we all know, the IRS doesn’t like secrets.
How To File
When it comes to doing the actual legwork, the IRS makes things a bit more complicated than usual.
There are two forms that must be filled out. Here’s what they need:
Form 8949 - This is where you really need to be detailed. For this form, you must have knowledge of each sale, exchange, or purchase with cryptocurrency. From each of those sales, you must report either capital gains or capital losses.
Form 1040 Schedule D - This one is a bit more straightforward. The 1040 requires that you track all your capital gains and losses over both the short-term and long-term. Of course, you will still need a detailed log of your past year to do this part accurately.
If this sounds like a headache, because it is, don’t worry.
There are a growing number of specialists and companies that have dedicated their work to filing for cryptocurrency taxes. If you’re in pinch and have money to spare, this would be your best bet. Five minutes of research will introduce you to a number of resources in this realm.
In addition, check if your exchange platform or coin wallet offers any tax services. Many of them provide resources and do a bit of work for you to lessen the burden.
When NOT to File
Keep in mind that there are two circumstances in which filing is not necessary.
First, if you spent most of the year HODL-ing, then rest assured that no action needs to be taken. In fact, even buying crypto is a non-taxable event. What you really need to keep an eye on is the capital gains as we discussed before. No capital gains on your crypto = no need to file taxes.
Here’s a quick review on capital gains: Take the fair market price of the virtual currency (value of the asset when it was sold/exchanged) minus the cost basis (how much you paid for the asset plus all other associated costs with its acquisition).
Anyways, the second reason not to file is if you have your hands on any tokens. Tokens received from ICOs are not taxable because they can’t be converted into USD, Bitcoin, or Ethereum. This is because tokens do not depend on their own blockchain and, instead, are built on top of a preexisting blockchain. If you’re rust on the difference between tokens and coins, visit this helpful resource.
Mining - In their 2014 tax framework, the IRS made specific statements about mining virtual currency and what that means for the taxpayer.
Simply put, the IRS puts mining in the capital gains tax category. So, yes, the fair market value of the virtual currency when it was mined must be included in the gross income section of your tax form. However, this is only necessary if the mining resulted in net gains. Electricity costs are a write-off.
Airdrops - Truth be told, it remains to be unclear how the IRS views these coin distributions. Some experts say to be cautious and list them anyways. Granted, their amount will be $0.
Independent Contracting - If you were freelancing this past year and you were paid in bitcoin, or whatever else, that virtual currency must be measured in U.S. dollars and the fair market value at the time of its retrieval must be recorded. The IRS sees this as self-employment income and, thusly, is subject to self-employment tax.
At the end of the day, cryptocurrency is property and are subject to capital gains taxes. If you spend crypto on a good or service, sold it directly for U.S. dollars, or exchanged it for another crypto, you have entered “taxable” territory.
Admittedly, the rules for this whole subject are murky. Since the IRS published their virtual currency guidelines in 2014, there has been no additional information released. In fact, this silence has led to some anxiety from lawmakers (and the rest of us, of course).