Tax day may have come and gone for most Americans, but that does not mean you can afford to ignore cryptocurrency and any gains you or your clients may have realized from its sale. Many investors use cryptocurrency as a means of hiding transactions, but as recent evidence shows, the Internal Revenue Service (IRS) is not going to ignore the tax implications of your virtual currency investments.
Tax and bankruptcy attorney Haleh Naimi guides you through the legal and tax issues associated with cryptocurrency exchanges in her live webinar for Eli Financial, “IRS Scrutiny on Cryptocurrency Reporting.” Naimi covers cryptocurrency ownership requirements, valuation issues, income tax reporting, and limitations on loss recognition for cryptocurrency transactions and exchanges.
Bitcoin Craze Makes Millionaires—and the IRS Has Taken Notice
Coinmarketcap recognizes more than 1,600 different cryptocurrencies; about two dozen of them have market capitalizations of $1 billion or more. The meteoric rise of Bitcoin, which currently has a market cap of around $146 billion, made plenty of millionaires out of both methodical investors and others who seemingly happened upon their windfall by accident. The instant wealth prompted teens to offer investment advice and encouraged students to invest their student loans in virtual currency.
However, for the past few months, the ride for investors has been rocky.
“If cryptocurrency investments looked like a path to free money at one point, they decidedly are not,” the Boston Globe reported. “Bitcoin has fallen back down to about $8,500 in recent months, making big losers of many who bought in late.”
And just like gains realized from stocks, bonds, and mutual funds, cryptocurrency reporting is required by the IRS. “Virtual currency is treated as property for U.S. federal tax purposes,” IRS noted in a guidance document. “General tax principles that apply to property transactions apply to transactions using virtual currency.”
Some investors likely thought they could hide their profits from the IRS, but a recent action by cryptocurrency exchange Coinbase makes it clear that won’t be the case. This winter, Coinbase gave in to IRS demands to send transaction information on some 13,000 of its investors, an act which exposed them to tax liabilities.
“The IRS’s victory represents the latest blow to the perceived independence of cryptocurrencies, which are in the crosshairs of a growing number of regulators around the world,” Time wrote. “Going forward … the IRS appears more aggressive in ferreting out crypto capital gains.”
Report Crypto Income Just Like Any Other Investment (Sort Of)
As the filing deadline neared in April, the IRS warned that not reporting income from cryptocurrency transactions could result in penalties, back taxes, and even criminal charges.
Virtual currency gains can be reported just like any other asset, explained Business Insider: Find your basis, calculate the realized gain or loss and any unrealized gain or loss, then classify it as a short-term or long-term gain. And if there is a loss, “you can deduct the losses on your tax return—even if you take the standard deduction.”
U.S. News & World Report adds that cryptocurrency received for goods and services is taxed as income. Trickier situations will also arise if you have mined Bitcoin, the magazine noted: “In this situation, although you are technically not buying or selling it, you still have to report it on your taxes.”
“Hard forks,” or quick bitcoin-swapping transactions, also count as taxable income, but are “fiendishly complicated” to report properly to the IRS, reported Quartz.
Finally, if investors bought a cryptocurrency and then used it to buy something, they may also need to report that in their taxes.
“If it’s considered as a tax event, then you are essentially exchanging Bitcoins for goods or services,” the blog BitcoinTaxes explained. “You may have gained in doing so, and therefore it has to be reported. Say you bought 1 BTC for $10. Now say that Bitcoin is worth $100 and you buy a $100 gift card. You got a $100 gift card for only $10. That $90 is gains and taxable.”
Yes, the IRS is looking closely at anyone who may be shirking their taxes due on cryptocurrency gains, says Naimi, and while the filing rules may not be straightforward, ignoring your duty to file can have huge consequences.