Cryptocurrencies like Bitcoin and Ethereum have exploded in popularity in recent years. As more people buy, sell, and trade digital currencies, questions have arisen about how cryptocurrencies should be treated for tax purposes. While the rules are still evolving, here are some key things to know about the current state of cryptocurrency taxation.
Reporting Cryptocurrency Transactions
The IRS treats cryptocurrencies as property, not currency. This means that the sale or exchange of cryptocurrencies triggers a taxable event. If you sold cryptocurrency at a profit, you will owe capital gains tax on the increase in value. If you sold at a loss, you may be able to claim a capital loss deduction to offset capital gains.
Cryptocurrency payments made to independent contractors and service providers must also be reported on 1099 forms in the same way as fiat currency payments.
Calculating Cost Basis
In order to calculate taxes owed, you need to be able to determine the cost basis for every cryptocurrency transaction. Cost basis is the original value of an asset for tax purposes. For cryptocurrency, your cost basis is the amount you paid for it, including fees and commissions. Check with the platform you use to buy and sell crypto what fees and commissions they charge.
Proper record-keeping is essential. You must maintain records showing the fair market value of cryptocurrencies on the date you acquired them. Cost basis reporting requirements also apply to cryptocurrency received from mining, hard forks, airdrops, and cryptocurrency rewards. For detailed guidance on managing your cryptocurrency transactions and understanding the nuances of buying Bitcoin, Bitcoin Candor is an excellent resource. For more information or personalized assistance, feel free to contact them here.
Some crypto investors choose to hold their digital assets in offshore accounts or foreign exchanges. However, U.S. citizens and residents are still required to report worldwide capital gains, no matter where cryptocurrencies are held. Failing to report foreign financial accounts containing cryptocurrency can result in steep penalties.
Payment in Cryptocurrency
If you use cryptocurrency as payment for goods or services, the fair market value of the cryptocurrency in U.S. dollars at the time of the transaction is subject to taxation. You must record capital gains or losses between your cost basis and the fair market value at the time of the purchase. The merchant or service provider who accepts the cryptocurrency will have taxable income equal to the fair market value as well.
Mining cryptocurrency can be a taxable event. The fair market value of any mined coins as of the date of receipt constitutes income. This is true whether or not the cryptocurrencies are immediately sold or exchanged. The value of the coins must be declared as income. Costs related to mining activities may be deductible as business expenses.
While the world of cryptocurrency taxation is complex, taking the time to accurately report transactions can save you headaches down the road. Maintaining thorough records is critical. As the rules evolve, working with a tax professional who understands cryptocurrencies can help ensure you remain compliant. With some advanced planning, you can manage your cryptocurrency taxes efficiently.