Cryptocurrency and Taxes – Evolving Issues

It has taken a while for cryptocurrency to take hold as a viable alternative to government issued currencies, and it is growing fast in importance and use. The IRS has taken note, and they are trying to figure out how to best regulate or at least enforce reporting of transactions. Major companies now accepting Bitcoin include:

  • Microsoft
  • Whole foods
  • Overstock
  • PayPal
  • Etsy
  • Starbucks
  • Newegg
  • Home Depot
  • and others

The IRS prefers to call it “virtual currency,” and with the fast start, changes are in the works as the IRS observes its growth.

Taxation of Cryptocurrency

The IRS is focused on cryptocurrency and even has questions about it on the first page of Form 1040. If you trade or use cryptocurrency, start paying close attention to how you account for transactions, as the IRS will be.

IRS Notice 2014-21i sets out the purpose of the notice this way: “This notice describes how existing general tax principles apply to transactions using virtual currency. The notice provides this guidance in the form of answers to frequently asked questions.

For tax purposes, the IRS states that cryptocurrency is treated as “property,” not “currency.” Many of the same principles involved in property transactions also apply at this time to cryptocurrency, those being:

  • mining of cryptocurrency
  • staking to earn cryptocurrency
  • earning it through rewards
  • receiving of or paying with cryptocurrency for goods or services
  • conversion of cryptocurrency to U.S. Dollars or other currency

Current Cryptocurrency Tax Guidance and Considerations

As of December 2021, current guidance and considerations regarding taxation and cryptocurrency include:

  • The FMV, Fair Market Value in U.S. Dollars of cryptocurrency received by the taxpayer as payment for goods or services must be reported in gross taxable income.
  • The taxpayer must track basis in the crypto, as receipt or use in excess of the basis must be reported as a taxable gain. If the FMV at disposal is lower than basis, it is reportable as a loss.
  • Capital losses from crypto can be used to offset gains from some other transaction capital gains. This is known as “tax loss harvesting.”
  • Some donations of cryptocurrency to qualified charitable organizations can lower a taxpayer’s liability. If held for more than a year, the donation can be made and deductible at FMV, Full Market Value, and not be subject to capital gains taxes (if requirements are met). If the crypto has been held for less than a year, the deduction is for the cost of the cryptocurrency.
  • The IRS has not ruled on the “Wash Sale Rule”:The wash sale rule generally disallows a deduction for the loss on the sale of stock if the taxpayer purchases the same stock within 30 days prior to 30 days after the sale. Though the IRS considers crypto as “property,” there has been no ruling on the wash sale question as of this writing.

Cryptocurrency, or virtual currency, is becoming more popular every day. It is not only used for transactions for goods and services, but also in financial planning. Consult with tax professionals to understand the rules.

i Cryptocurrency and Taxes – IRS.gov

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