Cryptocurrency Tax: A Plain English Q & A
Blockchain computing and its prized children, cryptocurrencies, are the latest market Sirens. Sure, some skeptics insist Bitcoin is a big ‘ole bubble on the verge of busting; regardless, the burgeoning niche continues to sink its claws into the traditional finance establishment.
And like the Iron Bank of Bravos, the IRS will have its due.
Below, we’ll review a few fundamental cryptocurrency tax legalities. If, after reading, you still have questions, by all means, get in touch. (The consultation is free.)
Cryptocurrency Tax Q & A
Do I have to pay taxes on cryptocurrency gains?
In a word, “yes.” Rumors swirl that digital currency gains aren’t taxable. To be clear: this is inaccurate. Anybody who has taken part in a crypto-to-fiat — or crypto-to-crypto — trade must include resultant gains in their income calculation.
What does that mean, exactly? In the simplest terms, if you purchased Bitcoin for $500, and then sold it for $10,000, you’re required to report a $9,500 gain. In certain circumstances, however, there are ways to deduct from the taxable value.
Head’s up: A federal court recently compelled Coinbase — a well-trafficked token exchange and wallet service — to fork over information, to the IRS, about 14,000 (or so) accounts that exceeded $20,000 worth of trades between 2013 and 2015. And on December 29, 2017, Coinbase announced that it would file Form 1099-K with the IRS for customers that had more than 200 receipt transactions amounting to greater than $20,000 during the taxable year.
How does the IRS classify cryptocurrency?
In the eyes of the Internal Revenue Service, cryptocurrencies are considered property — a piece of property with a fluctuating commercial value. When a party trades one commodity for another, authorities tax the dollar differential.
Has the Internal Revenue Service written any guidelines about cryptocurrencies?
Yes, the IRS maintains a Virtual Currency Issues Team; and yes, said team produced some guidelines about cryptocurrency tax issues, which they suggest be followed.
Notice 2014-21 is an IRS guide that covers various crypto legalities, including paying employees with virtual funds and the agency’s take on certain types of token trades.
In 2016, the nation’s tax czars also published a report entitled “As the Use of Virtual Currencies in Taxable Transactions Becomes More Common, Additional Actions Are Needed to Ensure Taxpayer Compliance,” which you can read here. If you don’t have the time to wade through IRS legalese, never fear, we’ve already done it for you. So, get in touch.
What if I use an overseas cryptocurrency exchange or wallet, must I still pay U.S. taxes on it?
Exceptions exist, but in most cases, offshore cryptocurrency holdings are still subject to stateside taxation. In fact, the IRS has a history of filing — and winning — John Doe warrants that compel foreign banks to hand over identifying information about accounts tethered to U.S. citizens. Officials have relied on the process for decades. Now, the IRS is using it to unearth Bitcoin and altcoin holdings stashed overseas.
In some cases, crypto holdings may be subject to Foreign Bank and Financial Accounts Reporting (FBAR) requirements. Failure to file can result in serious fines — and in extreme cases, sometimes even jail.
Is it possible to use like-kind positions for token-to-token exchanges?
Is it possible? Sure — for the 2017 tax year. Is it a fail-safe tactic? No, it’s not. For starters, for a like-kind position to work for cryptocurrencies, you’d generally utilize a qualified intermediary to act in a quasi-escrow role to swap the two properties without first converting to a fiat currency. Moreover, you must disclose the swap, and the IRS ultimately gets to accept or reject it. And at this point in the game, it’s more likely that it’ll choose the latter.
And while some people may be able to arrange a like-kind swap for their 2017 filings, the new tax code replaces “property” with “real property” in IRC Section 1030(a)(1). In other words, only real estate will qualify for like-kind swaps of this kind.
Why is the IRS laser-focused on cryptocurrency?
The Internal Revenue Service cares about one thing and one thing only — collecting as much tax as possible. Since cryptocurrencies are on the rise, the IRS wants its take.
In addition to tax revenue, the government seems concerned about the money laundering potential of digital money systems. Since digital tokens don’t have material-backing, authorities feel it is ripe for white collar crime activity. However, evidence to this end has yet to bear fruit.
What are some common challenges when it comes to reporting cryptocurrency gains for tax purposes?
Since cryptocurrency is relatively new — at least in comparison to fiat currencies — some confusion still lingers regarding how to report gains correctly.
For example, values are tough to pin down in token-to-token trades; moreover, worth changes by the second. Another hurdle: many exchanges don’t issue 1099s, which means every investor is responsible for their calculations.
All that said, so long as you make a good-faith attempt to report digital currency gains, you shouldn’t fear the Tax Man.
Why are some Bitcoin holders looking for off-shore “crypto havens”?
Bitcoin’s value is on a sky-bound trajectory, many a millionaire has been made, and some are looking to extract as much fiat currency as possible without incurring colossal tax penalties. Vehicles are popping up, seemingly constructed with Bitcoin Billionaires in mind. Small island tax shelters, like Vanuatu, have developed Bitcoin-for-citizenship programs. Moreover, individuals with a crypto-heavy portfolio are using various loan agreements that have beneficial tax implications.
In addition, for US persons opportunities exist in places such as Puerto Rico to receive reduced tax rates. It’s a complex space, but possible. Get in touch with us to learn more.
Connect With A Cryptocurrency Tax Lawyer
Cryptocurrencies are quickly becoming part of the mainstream marketplace. If you’re concerned about adequately reporting virtual currency gains — as an individual or for a business — give us a call. As both tax and Internet law attorneys, we understand every angle of the cryptocurrency tax puzzle. Get in touch today; the consultation is free; let’s figure out how best to report your cryptocurrency holdings and craft a way to save you money.