Cryptocurrency Taxation: What You Should Know
The increased use of cryptocurrencies has caught the eyes of the IRS who, understandably want to find new ways of increasing tax revenues with cryptocurrencies. In some ways, cryptocurrencies make it easier for the IRS to track assets. However, there are several nuances in the cryptocurrency sphere which make it difficult to tax cryptocurrencies while the sector is still in its infancy.
With Notice 2014-21, the IRS treats cryptocurrency as property for federal tax purposes. This means that tax laws on property transactions are applicable to cryptocurrencies. Thus, the IRS recognises gains or losses when cryptocurrency is used to purchase other property.
In order to ascertain tax obligations in relation to cryptocurrency transactions, the price paid for the cryptocurrency has to be tracked. This metric is also known as basis.
When it comes to determining the taxation of cryptocurrency transactions, it is important for cryptocurrency owners to properly track basis. Basis is generally defined as the price the taxpayer paid for the cryptocurrency asset.
Taxable transactions take place whenever a cryptocurrency is exchanged for a good or service. For this reason, tracking basis is very difficult. Gains and losses on cryptocurrency transactions must be tracked continuously to ensure reports reflect the true course of events. Several accounting issues can arise, especially in relation to deductions.
Some losses incurred through cryptocurrencies may not be deductible while others can be. It is important to take not of cryptocurrency-related events that may not be tax deductible. Losses incurred following use of cryptocurrency for everyday investments may be considered as a tax deductible event. Losses incurred from a purchase may not be considered as tax deductible events.
Tax deductions may also be achieved through donation of cryptocurrency. Cryptocurrency owners may be gain from donating cryptocurrency directly to charity. This may prove to be better than donating after-tax proceeds following a sale of cryptocurrency. A charity may receive the full value of the donation, providing the coins have been held for over a year.
Cryptocurrency miners may have to pay self-employment tax for money made through mining activities. This is dependant on where their cryptocurrency mining is classified as a trade or business. Cryptocurrency miners may deduct expenses incurred from mining operations.
The exchange of cryptocurrencies may be considered as a taxable event. Cryptocurrency owners may need to ensure that they keep note of the price changes that take effect between the time of purchase and time of sale of cryptocurrencies.
Using exchanges which export trading data may help in record keeping for the determination of tax obligations. Some platforms provide wealth management services to track assets on the blockchain with better accuracy.
While many certified accountants are swimming in waves of information on cryptocurrency taxation, they remain one of the best sources of help in ascertaining and meeting tax obligations.
Cryptocurrency received due to creation of new blockchains (hard fork) may also be treated as taxable income. The IRS proposed that owners of coins resulting from hard forks could be subject to taxation. Guidance on the issue remains unclear but it puts into question whether cryptocurrencies resulting from hard forks should be invested in.