Cryptocurrency and Taxes - What You Need to Know
Contributed by Top Rated Forex Brokers
25 September, 2018
Starting to dabble in cryptocurrency? If so, there's a lot to learn, including how your investments will affect your taxes. Since 2017 was a landmark year for Bitcoin, experts believe the IRS will definitely start cracking down on cryptocurrency transactions, meaning you'll need to be vigilant with keeping accurate records. Here's what you need to know to stay out of trouble when tax time rolls around.
What Transactions Does the IRS Care About?
As you might expect, the IRS is interested in nearly every aspect of your cryptocurrency involvement. It's vital to keep track of even the smallest transactions you make, just in case it has an implication on your taxes. Some of the scenarios you will want records of include:
- Spending cryptocurrency which you earned through trading or investing.
- Trading cryptocurrency, such as converting your Bitcoin to USD or vice versa.
- Getting paid in cryptocurrency for any product or service you provided.
What You Need to Know
You Need to Self-Report
Usually, when you trade or invest in USD, your bank or brokerage firm sends over a 1099 form at tax time that lists all your gains and losses. This makes it simple to report your income from these investments. However, in the case of cryptocurrency, most organizations do not take the time to send this form. Coinbase, one of the most popular digital currency marketplaces, only sends you a 1099 form if you've had more than 200 transactions and over $20,000 in gains.
Unless you're a heavy investor, you probably won't reach this limit. This means you will have to maintain accurate records on your own behalf. Failing to do so could put you at risk for an audit from the IRS.
Your Cryptocurrency Is Property
In the eyes of the IRS, cryptocurrency is not cash. It's actually considered property, just like real estate or stocks. This has both benefits and downsides. For example, if you had a capital gain through your trading, you'll, unfortunately, need to pay taxes on what you've earned. However, if you lost money through trading, that counts as a loss, which you can deduct from your taxable income.
To calculate your gains correctly, you'll need to determine your basis, which is typically the purchase price of the cryptocurrency. However, it can be affected by the return of capital distributions, dividends, and splits. Once you have this value, subtract the current market value of the cryptocurrency, and you'll have the capital gain. For more information, refer to Schedule D (1040) form from the IRS, as this is what you'll need to file.
You Can't Hide Your Trades
Technically, it's possible to hide your trades, as there's no agency actually reporting them to the IRS on your behalf. And since many transactions are anonymous, you could easily conceal just how much money you have in your accounts.
However, hiding your trades is a terrible idea and 100 percent illegal. If you ever got caught, you'd have to pay hefty fines and penalties, usually with interest. Tax evasion carries with it a prison term of up to five years along with a fine up to $250,000. Even if you report some of your transactions but leave out others, you could still go to prison for three years and pay $250,000 in fines.
You Still Need to File Even If You Don't Cash Out
Perhaps you've made a lot of trades in a particular cryptocurrency, but decide not to cash them out to USD. Do these still count as taxable funds? In short, yes. Any transaction in which you've paid for goods or services still counts as a taxable event, according to the IRS.
However, one good bit of news - you don't need to file any foreign transactions on your Report of Foreign Bank and Financial Accounts (FBAR). If you're not familiar with FBAR, it's a form you must file if you have a financial account outside of the United States that exceeds over $10,000. Not needing to file cryptocurrency transactions on these reports is a small victory, as it will save you a little paperwork.
You Can File Your Losses
The great part about investing in cryptocurrency is the unstable market value. One day, you might have a Bitcoin investment worth $1,000. In just a few days, it might rise to $2,000. Unfortunately, it could also fall to $500, meaning you would lose money if you sold it at that time.
For tax purposes, taking a realized loss such as this is a big benefit. In the above example, if you sold the Bitcoin currency you originally paid $1,000 for at a price of $500, you'll have a realized loss of $500 (the amount the price dropped after you bought it, not the final sale price). This means you can put down a loss of $500 on your taxes, reducing your tax liability.
The IRS is still determining how exactly to handle cryptocurrency, so these regulations may change as the organization formulates new policies. To avoid getting in trouble or paying fines for filing incorrectly, consult with a tax professional. They can answer your questions and help you better understand the tricky ins and outs of cryptocurrency and taxes.
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