Example Bitcoin Tax Situation
This example calculates estimated taxes for the 2018 tax year for a person that made two sales. All values are in USD.
Person A Tax and Finance Details
2018 Taxable income 80,0002018 State tax rate 5%
On Feb. 1, 2018, Person A sold Bitcoin for a total of $10,000. That Bitcoin was previously purchased on June 1, 2017 for $5,000. Since it was held for less than a year, the $5,000 profit is subject to short-term capital gains tax rates. Based on Person As filing status and income, the taxes are calculated as follows:
$2,500 X 22 percent + $2,500 X 24 percent = $1,150 federal taxes owed on short-term capital gains$5,000 X 5 percent = $250 state taxes owed
$1150 + $250 = $1,400 total tax liability for transaction #1
On Mar. 1, 2018, Person A sells Bitcoin for a total of $10,000. That Bitcoin was purchased on Feb. 1, 2017 for $3,000. Since it was held for longer than a year, the $7,000 profit is subject to long-term capital gains tax. In addition, Person As taxable income is now calculated at $85,000 to include the income from the previous sale. The taxes are calculated as follows:
Total Taxes Owed
Why Crypto Exchanges Can’t Provide Accurate Tax Forms
This is where a big problem exists within the crypto tax space.
Cryptocurrency exchanges like Coinbase, Binance, and others do not have the ability to provide their users with accurate capital gains and losses tax reports. This is not a fault of the cryptocurrency exchange itself, it is simply a product of the unique characteristics of cryptocurrenciesânamely their transferability.
Because users are constantly transferring crypto into and out of exchanges, the exchange has no way of knowing how, when, where, or at what cost basis you originally acquired your cryptocurrencies. The exchange only sees when crypto appears in your wallet.
The second you transfer crypto into or out of an exchange, that exchange loses the ability to give you an accurate report detailing the cost basis and fair market value of your cryptocurrencies, both of which are mandatory components for tax reporting.
As you can see pictured below, Coinbase themselves explains to their users how their generated tax reports wonât be accurate if any of the below scenarios took place. This affects over two thirds of Coinbase users, which amounts to millions of people.
You can read more about the âcrypto tax problemâ in our blog post: Why Exchanges Canât Report Crypto Taxes.
Deducting Ponzi Scam Losses
Ponzi scam losses can be treated as itemized deductions and are not subject to the $3,000 capital loss limitation. The amount invested in the scam can be deducted from your taxable income. This treatment is also known as the “Bernie Madoff deduction,” named after the former chairman of the Nasdaq stock market, Bernard Madoff, who was convicted for running one of the biggest financial fraud operations in history. The key requirement is that someone must have been indicted for the loss to qualify as a Ponzi deduction.
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Cryptocurrency Tax Laws: What Us Taxpayers Should Know As Tax Day Approaches
Did you trade or sell Bitcoin, Ether, or other digital currencies in 2020? If so, youll have information you need to report on your tax return. With the tax deadline rapidly approaching, TaxBits CPAs and tax attorneys are breaking down the cryptocurrency tax laws to make this process as simple as possible. Contrary to popular belief, taxes on crypto doesnt always equate to bad news. If you sold crypto at a loss or donated or gifted crypto in 2020, you may actually be able to reduce your tax liability.
Lets start with the basics.
I Earned A Profit From Bitcoin In Previous Years Can I Retrospectively Declare This Income To The Irs
2019 was the first year that the IRS included a reference to cryptocurrency on their tax documents.
Citizens and resident aliens were asked on Form Schedule 1 At any time during 2019, did you receive, sell, send, exchange or otherwise acquire any financial interest in any virtual currency?
Schedule 1 is used to report income which is otherwise not listed on the Form 1040. This typically includes capital gains, alimony, or gambling winnings.
However, the Schedule 1 which nonresidents received did not reference cryptocurrency. Instead, nonresidents were expected to report their gains on Schedule NEC along with their Form 1040NR.
In 2020, the IRS recognised that the process needed to be simplified as millions of dollars of cryptocurrency slipped through the net.
With this in mind, the IRS moved the virtual currency question to the main 1040 tax return form.
If you have earned income from cryptocurrency which has not previously been reported, it is advisable to declare this income to the IRS.
Despite the IRS only beginning to update their tax documents in 2019 in relation to cryptocurrency, the US tax authority had issued notices as far back as 2014 and many of the rules outlined at that time are still in force today.
In summary, if you were paid for personal services with cryptocurrency such as Bitcoin, its advisable to report it on your tax return, the same as ordinary income.
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Not All Crypto Activity Is Taxable
Good news! Just because you own crypto doesnt mean you owe taxes. If you bought crypto and havent disposed of it, you have no taxable activity to report. Nontaxable activities include:
- Transferring assets between exchanges
- Gifting cryptocurrency
- Donating cryptocurrency .
While donating cryptocurrency is not a taxable event, it is recommended that you do report the donations on your tax return because you may be eligible for the itemized charitable deduction.
How Is Cryptocurrency Taxed In Canada
**Note, I am not an accountant, nor am I an expert on cryptocurrencies. You should seek the advice of an accountant with experience in cryptocurrencies if you have any serious questions or concerns.
Are you wondering how is cryptocurrency taxed in Canada? With the explosion of Bitcoin, Ethereum, and whatever other cryptocurrencies that currently exist or will come to exist, many people are starting to invest. Theres money to be made , and you need to pay your fair share of taxes.
If you invested early, you could have easily become a millionaire. As with any hot investment, many Canadians are trying to jump on the bandwagon so they too can make a fortune. Regardless of how much profit these investors make, theyre going to have to eventually deal with taxes. Below youll find some common questions and scenarios when it comes to cryptocurrencies in Canada and how to deal with them. If youre new to cryptocurrency, be sure you read this post on the 7 things you need to know about cryptocurrency before you start investing.
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You Dont Escape Being Taxed Just Because You Didnt Get A 1099
With a bank or brokerage, you will typically get a Form 1099 reporting the income youve received during the year. That may not be the case with cryptocurrency, however.
There isnt really the same level of reporting yet for cryptocurrency, relative to typical 1099 forms for stocks, interest and other payments, says Harris. The IRS doesnt get great reporting from Coinbase and other exchanges.
But the lack of a 1099 wont let you escape any tax liability, and youll still have to report your gains and pay tax on them. Still, its not all bad news: If you had to take a capital loss, you can deduct that on your return and reduce your taxable income.
Capital Gains Vs Capital Losses
Heres some good news for crypto taxes: You only owe taxes if you spend or sell it and realize a profit. If you sell or spend your crypto at a loss, you dont owe any taxes on the transaction.
If you bought $10,000 in Bitcoin and sold it for $13,000, for example, your taxable gain would be $3,000. But if you sold the same Bitcoin for $7,000 youd owe nothing in taxesand could even use part of your $3,000 in Bitcoin losses to offset other investment gains.
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Cryptocurrency Gifts And Donations
More good news! Donating or gifting cryptocurrency are not taxable events, so you will not recognize any gains or losses when gifting or donating.
Additionally, if you held the cryptocurrency for more than one year before donating, then you will be eligible for the itemized charitable deduction for the fair market value of the cryptocurrency at the time of contribution.
If you donate after holding the cryptocurrency for less than one year, you are still eligible for the itemized charitable deduction, but your deduction will be limited to the amount you obtained the crypto at .
Its important to note that the deduction is only applied to donations to a qualified charitable organization. Other gifts, such as a graduation present or crypto crowd-funding, are not eligible for the deduction.
How Do Defi Taxes Work
Cryptocurrency lending platforms and other DeFi services like Uniswap, Maker, and Compound have exploded in popularity within the evolving crypto landscape.
Receiving interest income from crypto lending activities or liquidity pools is considered a form of taxable income and must be reported on your taxesâsimilar to mining and staking rewards.
The full tax implications associated with transactions common to the DeFi landscape are outside of the scope of this piece however, we discuss them thoroughly in our blog post here: The Defi Crypto Tax Guide.
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Warning Letters Sent By The Irs For Cryptocurrency Investors And Bitcoin Investors
On July 26, 2019, the IRS announced that it was sending education letters to more than 10,000 cryptocurrency investors. It sent three versions of the letter: Letter 6173, Letter 6174 and Letter 6174-A. According to the IRS, all three versions strive to help taxpayers understand their tax and filing obligations and how to correct past errors.
If you have received Letter 6173, Letter 6174 or Letter 6174-A, this means that the IRS has identified you as a cryptocurrency investor who may have failed to meet your federal tax obligations in one or more prior years. This is most likely the result of Coinbase turning over more than 13,000 investors data to the IRS pursuant to a summons and court order. In order to protect yourself, you must respond to the letter appropriately, as failing to do so could lead to a tax audit or criminal tax law investigation.
What do we mean by responding appropriately? Your filing obligations will depend on your personal tax filing history and your history of Bitcoin and other cryptocurrency transactions. If you have met your reporting and payment obligations, then you may not need to file an amended return. However, if you have failed to disclose any taxable cryptocurrency transactions to the IRS, you will need to work with Boston tax lawyer Kevin E. Thorn. He can review your returns from prior years, prepare the necessary amended returns, and determine whether any back taxes, interest and penalties are owed.
What Happens If I Dont Report My Cryptocurrency Income
The IRS is taking the taxation of virtual currency seriously and has recently stepped up its efforts to crack-down on cryptocurrency tax-dodgers.
The agency is liaising with crypto-exchanges for information regarding non-compliant taxpayers.
In fact, over the last two years, the IRS announced it was sending letters to more than 10,000 people who potentially failed to report cryptocurrency income.
The letters state that individuals have 30 days to respond to the IRS. The result of non-compliance? Usually a tax audit for the investor.
The message from the IRS is clear file your taxes.
This US tax deadline falls on 15 April each year, so you should know before then whether or not you need to file.
If you do not file and declare all of your income, you leave yourself open to penalties and fines from the IRS.
The late filing penalty is generally 5% of the unpaid taxes for each month or part month that it is late.
However, if you still havent filed more than 60 days after the due date or extended due date, the minimum penalty is $435 or 100% of the unpaid tax, whichever is less.
As a nonresident, failure to comply with your US tax obligations can also jeopardise your future US visa and Green Card applications.
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Should I Use An Accountant
If youre unsure about how to handle your taxes, speak to an accountant who has experience with cryptocurrencies who can guide you through the process or file your taxes on your behalf. That said, theyre still going to need some kind of paper trail to help you out.
Another solution is to try TurboTax Live Full Service since youll get access to a tax expert who can file on your behalf. You can ask them as many questions as you want and you only get charged when you actually file.
Youll Be Asked Whether You Owned Or Used Cryptocurrency
Your 2020 tax return requires you to state whether youve transacted in cryptocurrency. In a clear place near the top, Form 1040 asks, At any time during 2020, did you receive, sell, send, exchange, or otherwise acquire any financial interest in any virtual currency?
So youre on the hook to answer definitively whether youve transacted in cryptocurrency, putting you in a position to potentially lie to the IRS. If you dont answer honestly, you could be in further legal jeopardy, and the IRS does not look kindly on liars and tax cheats.
However, there is a footnote. In a recent clarification, the IRS said that taxpayers who only purchased virtual currency with real currency were not obligated to answer yes to the question.
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Is It Business Income Or Capital Gain
The income you get from disposing of cryptocurrency may be considered business income or a capital gain. In order to report it correctly, you must first establish what kind of income it is.
The following are common signs that you may be carrying on a business:
- you carry on activity for commercial reasons and in a commercially viable way
- you undertake activities in a businesslike manner, which might include preparing a business plan and acquiring capital assets or inventory
- you promote a product or service
- you show that you intend to make a profit, even if you are unlikely to do so in the short term
Business activities normally involve some regularity or a repetitive process over time. Each situation has to be looked at separately.
In some cases, a single transaction can be considered a business, for example when it is an adventure or concern in the nature of trade. Whether you are carrying on a business or not must be determined on a case by case basis. For more information, please review our archived content on an adventure or concern in the nature of trade.
Some examples of cryptocurrency businesses are:
- cryptocurrency mining
- cryptocurrency trading
- cryptocurrency exchanges, including ATMs
How The Irs Taxes Cryptocurrency And The Loophole That Can Lower Your Tax Bill
Although cryptocurrencies like Bitcoin can be used to make purchases of anything from hand-made crafts to, in the near future, a Tesla electric vehicle, if you convert that currency to cash rather than pay in the form of crypto, you could be liable for capital gains tax. Every time you convert Bitcoin to cash it is technically a taxable event, says Daniel Polotsky, CEO at CoinFlip, a Bitcoin ATM operator.
However, whether or not you earn money on the transaction determines whether you may have to pay capital gains tax or can declare a loss on your taxes, which could reduce your tax bill by offsetting other gains or up to $3,000 in your adjustable gross income. Most people only think about reporting transactions when they make money, Polotsky says. Reporting losses can help people save on their taxes, as well.
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Icipating In An Ico / Ieo
Participating in an ICO or IEO triggers a taxable event as you are exchanging a cryptocurrency for another i.e. the tokens that will be issued in the future.
The transaction is taxed when you receive your tokens – not when you participate. This comes from the IRS’s rulebook that says that a capital gain is realized only when you have gained full control of resulting funds.
What You Need To Know About Crypto And Taxes
Crypto tax laws themselves arent actually that complicated.
Like other assetssuch as gold, stocks, or bondsthe IRS classifies crypto as property. As a result, you dont pay taxes on Bitcoin until you sell or trade it.
Reporting crypto earnings on your taxes, on the other hand, can be confusing and time-consuming. For starters, youll need to fill out several tax formsincluding the 1040, Form Schedule D, and Form 8949, to name a few. This includes reporting every sale or trade, the amount you originally paid, the sale price, and the date of the sale.
To make things more difficult, while many crypto exchanges allow you to download transaction records as an Excel or CSV file, not all are so helpful. Some, for example, only provide your transactions for the last month or quarterif at all.
Whatever the case, the burden is on you to correctly report each and every taxable event. This includes:
- Sales of crypto
- Exchanges for USD or other currencies
- Purchases using crypto
Additionally, if you are participating in decentralized finance yield farming or staking and earn tokens as a result, your earnings are subject to taxation as income.
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