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Tax season is coming soon. If you’ve been actively buying and selling cryptocurrencies in the last year, you may be wondering if you have to report and pay taxes on the virtual currency. How long you’ve owned the cryptocurrency will come into play.
Cryptocurrency held its spot in the headlines as Bitcoin continued to perform well in 2021, with its pricing doubling by the end of the year. This has led to cryptocurrency becoming a more significant part of financial portfolios for investors, consumers, and large companies. This also means there are now guidelines to reporting and paying taxes on crypto.
As digital currency isn’t very well regulated, it’s beneficial for you to understand the tax implications of buying, selling, and using them before diving in. Even if you or your business have been dealing with cryptocurrency for a while, it pays to remind yourself what needs to be reported. This article aims to answer your crypto tax-related questions.
How Is Cryptocurrency Taxed and Reported?
The IRS considers any type of cryptocurrency as a type of virtual currency. This includes the likes of Bitcoin, Dogecoin, Ethereum, and other currencies that may have escaped the limelight.
If you’ve exchanged, sold, or used crypto to purchase goods and services, you’ll need to report your gains. The new IRS form 1040 (federal annual tax return) now includes a section asking if you’ve received, sold, sent, exchanged, or otherwise acquired virtual currency.
Suppose you purchased any form of virtual currency with real money, whether personal or through your business, you would answer “no” to this question. However, if you obtained any form of virtual currency through mining, you’d have to answer “yes” as that value is immediately taxable.
You also need to report certain gains on Form 8949. For example, if you bought Bitcoins for $1,000 and later sold it for $1,500, you have $500 in gains, which is the amount you’ll have to pay taxes on. However, if you sold those Bitcoins for $500, resulting in a loss of $500, you can deduct those losses to offset capital gains.
How to Calculate Taxes for Cryptocurrency?
To determine how much should be reported in gains or losses and how much tax you need to pay, you must first know the value of the virtual currency in U.S. dollars. That value, including any fees paid, is known as cost basis. Compare this with the price of when you sell or spend the currency to calculate your tax liability.
But this isn’t the only step. You also need to factor in the length of time you’ve held that asset. This will determine the type of capital gain or loss. Depending on the duration you’ve held your cryptocurrency, your gains or losses will be split into two categories known as ‘short-term’ or ‘long-term.’ Here’s how to distinguish the two:
Short-term capital gains or losses refer to assets you own within a 365-day period. This crypto tax rate is similar to standard income rates, ranging from 10% – 37%, similar to ordinary income like salaries, commission or side business.
Long-term capital gains or losses refer to assets you’ve owned for more than a year before selling. Depending on your income, these are taxed at a lower rate between 0% to 20%.
We mentioned earlier about deducting your losses to offset capital gains. This offset can only be done to gains and losses of the same type. For example, short-term losses will first lower your short-term gains. Any remaining net losses can be used to offset a different capital gain.
If you have remaining capital losses, they are used to offset up to $3,000 of regular income. After that, any leftover capital loss will be rolled over to the next year.
What Happens If You Don’t Report Your Cryptocurrency Transactions?
Many people aren’t aware they may be liable for crypto taxes. This is because you may not necessarily receive the basic forms that explicitly tell you how much taxes are paid and owed.
While some cryptocurrency exchanges will generate reports to help with your tax reporting, that service is not always available. It’s your responsibility to keep track of all your transactions and report your crypto gains and losses correctly.
Like regular transactions, failing to report your cryptocurrency transactions can lead to penalties, interest, and IRS audits. The IRS will not view any oversight to report or pay taxes as an honest mistake, even if you were unaware of the requirements.
While cryptocurrency is safe in many other aspects, it doesn’t mean it’s anonymous or untraceable. IRS’ Fraud Enforcement Office works with private organizations to identify individuals attempting to avoid reporting crypto gains fraudulently.
Crypto Tax Calculators and Software
Reporting and calculating how much crypto taxes you owe can be daunting and confusing. To make sure you stay on the right side of the rules, keep track of all your transactions and record if for safekeeping. While you can hire a third-party vendor or custodian to help you, other available options include online crypto trackers and calculators.
There are many crypto tax software or crypto portfolio trackers to choose from. These trackers allow you to connect multiple exchanges and virtual wallets to help you track the total amount and value of your cryptocurrency. Some of the best crypto tax software and calculators include:
- Pionex is a trading platform that’s available 24/7 and provides 16 free in-built trading bots.
- Blockfolio allows users to buy, sell, and see their investments across multiple exchanges.
- Coinstats provides real-time price updates and supports the most popular cryptocurrency platforms like Coinbase and Binance.
- Delta is an investment tracker that allows you to track your crypto and other investments, including stocks and mutual funds.
- TurboTax is an online tax preparer that can support over 2,000 cryptocurrencies at once.
- Tax Act is an alternative online tax preparer that supports crypto tax reporting and calculations.
The Big Picture…
Yes, you must pay taxes on any virtual currency you buy, sell, trade, or mine. Taxes will also be applied if you use cryptocurrency to pay for taxable items. Wages, commissions, or income from side businesses are considered taxable income and should be reported.
Remember that all cryptocurrency transactions must be converted to U.S. dollars before reporting. To make sure you don’t unintentionally make a mistake on your crypto taxes, keep careful track of your crypto transactions, and record them immediately for safekeeping.