How are cryptocurrency transactions taxed? How are the IRS and other taxing authorities planning to address Bitcoin taxes?
Yes, Uncle Sam gets a cut. Bitcoin and other cryptocurrencies may exist in a “virtual” world, but as far as the Internal Revenue Service (IRS) is concerned, they’re very much “real” property, which means that for anyone trading, investing, or otherwise involved in this arena, it’s important to understand cryptocurrency taxes.
Back in March 2014, the IRS said as much when it issued initial guidance on U.S. federal tax implications for transactions in, or transactions that use, virtual currency. The IRS noted that in some environments, virtual currency functions like “real” currency, similar to the U.S. dollar or other legal tender (even if it doesn’t have legal tender status).
Cryptocurrencies have been quite volatile since then. First there was the rise to what many called a bubble in 2017, which was followed by a steep selloff in 2018 and then a major comeback in 2019. As of November 2019, combined market capitalization of the 2,300-plus crypto coins and tokens trading was $240 billion, according to CoinMarketCap. That’s down from a peak of about $828 billion in January 2018.
If you’re a U.S. taxpayer, the federal government should get its cut of any profit from buying and selling cryptocurrencies, payments accepted in cryptocurrencies, and certain other transactions.
“The main thing to remember is how you’re using it,” Lisa Greene-Lewis, a CPA and editor of the Intuit TurboTax Blog, said of cryptocurrencies. The market is “evolving fast” and there are many things investors must get a handle on in the crypto world, but a good place to start is to “make sure you claim your transactions.” She offered answers to a few basic cryptocurrency taxation questions.
The IRS views cryptocurrencies in a similar light as more traditional assets, like stocks and real estate, meaning gains in many cases are subject to capital gains taxes, Greene-Lewis said. “The IRS considers it property, so when it’s sold, it goes on same forms,” she said.
How cryptocurrencies, as a capital asset, are taxed depends in part on the “character” of any gains or losses, according to the IRS.
In the 2019 tax year, long term gains (from holding an investment longer than a year) would be taxed at 20%, 15%, or zero, depending on an individual’s tax bracket. For short term gains (less than a year), a short-term capital gains tax is applied, equal to the ordinary income tax rate for the individual.
Again, the IRS applies the same kind of treatment it does to stocks, Greene-Lewis said. That means you could offset any capital gains taxes on investment gains with any losses from cryptocurrencies—you’d report it as a “personal” loss.
If you trade Bitcoin futures, you'll want to familiarize yourself with Section 1256 of the IRS tax code. Under Section 1256, futures contracts are treated with “mark to market” status, meaning, even if you didn’t liquidate a position by the last trading day of the year, the IRS treats it as if you did, and uses the settlement price of that final trading day to figure your unrealized gain or loss. The settlement price is “marked” and used as the cost basis going forward. For more on traders and taxes, including a special capital gains tax treatment, refer to this article.
Wages paid in virtual currency are subject to withholding taxes to the same extent as dollar wages, Greene-Lewis said. Employees must report their total W-2 wages in dollars, including anything earned in cryptocurrencies (independent contractors and the self-employed would report this on their 1099s).
When investing in or using cryptocurrencies, keep meticulous records and watch for taxable events—transactions that could trigger capital gains or losses.
Other tips on Bitcoin and taxes: keep meticulous records and watch for “taxable events,” or transactions that could trigger capital gains or losses (spending cryptocurrencies falls into this basket, as does converting a cryptocurrency into dollars).
If you’ve managed to “mine” Bitcoin—in effect, digging it up by solving a series of complex computations based in the public ledger known as the blockchain—congratulations. Also, know that you must report receipt of this virtual currency as income.
Mining cryptocurrency creates earnings, which must be included in gross income after determining the fair market dollar value of the virtual currency as of the day it was received, Greene-Lewis said. If a Bitcoin miner is self-employed, their gross earnings minus allowable tax deductions are also subject to the self-employment tax.
Mining cryptocurrency creates earnings, which must be included in gross income after determining the fair market dollar value. Simply put: “If you mine it successfully, then it’s taxable,” she said. “If you hold onto it, then sell it, you would have another taxable event, just like stock.”
As for ICOs (initial coin offerings), the IRS’s view is similar to virtual currencies generally. ICOs produce ordinary income for both individuals and businesses that is taxable.
Cryptocurrencies, like many financial vehicles today, are changing rapidly and can carry different implications for individual taxpayers, Greene-Lewis noted. It’s prudent to consult with a tax professional.
TD Ameritrade does not provide tax advice. You should consult with a tax professional regarding your specific circumstances.
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