A Beginners Guide to Cryptocurrency Taxation
Cryptocurrency is possibly the hottest topic in taxation at the moment and the IRS is taking notice.
Many areas of cryptocurrency taxation are not settled and may not be for several years. IRS issued guidance only covers the most basic situations. Almost none of it is considered “substantial authority.”
Don’t let complicated situations trick you into paying more tax than legally required. Our experience will help you navigate situations with unclear tax law to help you minimize your tax obligations.
We’re personally invested and experienced in the crypto market, including trading, staking, and DeFi transactions, such as Liquid Pool and Yield Farming. We understand first hand the nuance and technical aspects of the crypto world.
Below are the basics of crypto taxation.
The IRS has issued very little guidance to date that regarding cryptocurrency. What they told us is that they consider crypto to be property, not currency. As property, the holder is required to track cost basis, and realization is subject to capital gains treatment.
When Is Cryptocurrency Taxed?
Crypto is taxed only when you converted it to something else, either fiat or another coin. Depending on how long you have held the coin, it is subject to short or long term capital gains. Only the realized gain is subject to tax. That means if you bought $1000 worth of BTC, and a month later sold it for $1500, you would be taxed only on the $500 profit at short term rates.
Exchanging fiat for coin is not a taxable event, but it is important to record your basis information. This is how much you coin you bought, when you bought it, and how much USD you spent.
Exchanging coin for fiat must be reported on your annual 1040, on form 8949, which flows to Sch D. When you report it, you need all of the following information: Date Acquired*, Cost Basis (This is what you initially paid for the coin), Date Sold, and Sales Proceeds. With this information, you can calculate the net gain and whether it is short-term or long-term.
*Various is acceptable here as long as all transactions in the group are either short- or long-term.
Coin for Coin
Exchanging one coin for another coin is considered a taxable event. Even if the coin is not converted to USD, the USD value equivalent needs to be reported. For example, If I have 1 ETH, and I convert it into 9 BNB, where the USD value of ETH is $4500 and BNB is $500, I would need to close out the ETH holding by calculating the gain. If I bought that ETH for $3000, I would show selling 1 ETH on today’s date with a basis of $3000 and a sales price of $4500. I report $1500 as a capital gain, and my basis in BNB is now $450.0
Purchasing Goods and Services
Buying a sandwich with BTC may seem like a great idea, but it comes with tax consequences. Effectively, you are converting your BTC to a sandwich, and need to recognize the gain on the BTC as if you converted it to USD. If your basis in the BTC is $8 and the sandwich is $10, you have a $2 capital gain that needs to be reported.
Sale of NFTs
Despite being non-fungible, NFT sales are recorded the same way as other tokens. However, some NFTs maybe subject to a higher, ” collectibles rate” tax.
Mining is handled very differently as you are basically creating value from nothing. Gross proceeds from mining should be reported on Schedule C. Appropriate deductions/depreciation for electricity, internet, mining rigs, etc should be taken as well. You will be subject to income and self employment tax on the net gain, but the net will also become your basis in the mined coin. This area of crypto can become very complicated very quickly. Feel free to contact us to talk about your individual situation.
DeFi can easily make your tax situation a mess and may have different tax treatment depending on your individual facts and circumstances. Schedule a consultation today to discuss your specific situation.