Cryptocurrency has evidently taken the world by storm. This is perhaps due to its strong cryptography that ensures all online transactions are safe.
If you’re part of this digital currency frenzy, you’d want to know how cryptocurrency is taxed.
This brief guide will fill you in on all the tax details of crypto.
Taxable Crypto Actions
According to the Internal Revenue Service (IRS), cryptocurrencies should be treated as capital assets, which means that they should be taxed.
You agree that not all individuals are wired to fill their tax returns entirely on their own. This is because it can turn out to be a pretty time-consuming process if you’re not used to it or you don’t exactly understand some of the technical terms.
Fortunately, you can use online tools, such as TaxBit, to simplify your crypto tax reporting.
But even so, you need to understand what crypto activities are taxable and which ones aren’t. Here’s a list of crypto transactions that attract taxes:
- When customers pay you in crypto: If someone pays for your goods or services in crypto, your profits are taxable.
- Holding your crypto for long: If you purchase crypto coins and hold them for more than a year, the IRS taxes this as a long-term capital gain.
- Crypto mining: This refers to the process of approving and recording new transactions on a blockchain. It’s usually a very sophisticated process handled by supercomputers. If you engage in this, you’re rewarded in crypto tokens, which are also taxable.
- Crypto gifts from marketers: If you receive digital currency as a reward for helping crypto firms get new customers, it counts as a taxable income.
- Currency exchange: When you convert crypto to fiat currencies like the US dollar, Euro, or Japanese Yen, the gains you earn are taxable.
- Trading cryptocurrency: Did you know that there are more than 7,800 cryptocurrencies in the market? The most popular include Bitcoin, Ethereum, XRP, Cardano, USD Coin, Polkadot, Uniswap, Chainlink, Stellar, and Tether. If, for instance, you use your Bitcoin to purchase Ethereum, the gains you make are taxable.
- Engaging in Decentralized Finance (DeFi): This refers to all cryptocurrency transactions aimed at dethroning the mainstream financial powers. A good example is lending large amounts of cryptocurrency to borrowers and earning interest from the loans. Such gains are taxable.
Non-Taxable Cryptocurrency Activities
There are other crypto events that are non-taxable. Here are some of them:
- Buying crypto: You won’t be taxed when you purchase digital money from cryptocurrency exchanges in any way - through DCA, on leverage for scalping, any form of trading. Traders can sometimes use this to offset their taxes.
- Gifting crypto: The IRS won’t tax you if you gift your friend some bitcoins, for example.
- Donating crypto: Likewise, if you give crypto coins to, say, a children’s home in need of financial support, you won’t attract taxes.
- Short-term holding: If you buy digital cash and hold it for less than one year, in some countries you have no taxes to worry about. In other countries it is the opposite.
- Wallet-to-wallet transfers: You don’t owe the government any taxes when you transfer cryptos from one of your wallets to another one.
How To Reduce Your Crypto Taxes
If you’re frequently transacting with cryptocurrencies, the tax burden could go unbearably high.
Try some of the following tricks to reduce your tax burden:
- Donate to charity: This reduces the total amount of cryptocurrency you hold so it doesn’t reach the taxable threshold.
- Move to a low tax neighborhood: Some states, like California and New York, have generally higher taxes than others, like Cayman and New Zealand Islands. Consider shifting to such places so it won’t affect your income-generating projects.
- Gift your crypto to family members: The IRS allows you to gift up to USD$15,000 annually before they start taxing you.
- Time your transactions: Wait for that time when tax rates are lower and do your crypto transactions.
Crypto Tax Season Preparations
For you to not stressfully panic when the deadline comes, get ready for the crypto tax season by doing the following:
- Record all your transactions as soon as they take place. This way, you’re able to account for all costs, thus reducing your tax liability.
- Fill Form 8949, which is the IRS-approved tax form for disclosing your crypto gains or losses. Add this form to Schedule D, which is the parent form for disclosing all your capital gains and losses.
- If all this paperwork and computations seems too much for you, hire certified professional accountants to help you.
You now have a general understanding of what cryptocurrency events are usually taxable and which ones aren’t. The rules change from country to country, though.
Because of that, consider using crypto tax software or hiring professionals to help you out.