What Are Crypto Taxes
Cryptocurrency is considered property for federal income tax purposes. And, for the typical investor, the IRS treats it as a capital asset. As a result, crypto taxes are no different than the taxes you pay on any other gain realized on the sale or exchange of a capital asset.
When you purchase a capital asset be it a stock, bond, house, widget, Dogecoin, Bitcoin, or other investment you establish a basis equal to your cost to acquire it. When you sell, you compare your sales proceeds to the basis to determine whether you have a capital loss or a capital gain. If your proceeds exceed your basis, you have a capital gain. If reversed, you have a capital loss.
You’ll also need to consider the time period for which you held the asset. Depending on how long you hold your cryptocurrency, your gains or losses will be considered short-term or long-term. That distinction will also play a big role in how much you have to pay in crypto taxes.
Bitcoin Used To Pay For Goods And Services Taxed As Income
If you are an employer paying with Bitcoin, you must report employee earnings to the IRS on W-2 forms.
- You must convert the Bitcoin value to U.S. dollars as of the date each payment is made and keep careful records.
- Wages paid in virtual currency are subject to withholding to the same extent as dollar wages.
Employees must report their total W-2 wages in dollars, even if earned as Bitcoin. Self-employed individuals with Bitcoin gains or losses from sales transactions also must convert the virtual currency to dollars as of the day received, and report the figures on their tax returns.
The Rules On Bitcoin Tax
Like any capital asset or investment, buying and trading Bitcoin results in capital gains or losses. If you sell Bitcoin, the variation in the market value when you purchased it versus when it sells leads to either a capital gain or a capital loss .
Three main factors determine your capital gain tax rates: your income, marital status and how long you hold an asset before trading, selling or disposing of it. Bitcoin held for less than 12 months is considered a short-term capital gain or loss whereas Bitcoin held for longer than that is classified as a long-term capital gain or loss.
If your long-term capital gains exceed your capital losses for the year, you may be subject to a lower tax rate than your income tax rate. Generally, most people dont pay higher than 15% on their net long-term capital gains, though a few exceptions apply.
Capital Gains Tax Rates
|Taxable income exceeds thresholds set at a 15% capital gain rate||20%|
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Avoid Bitcoin Tax With An Ira
Investing in an Individual Retirement Account, or IRA, that allows you to buy and trade Bitcoin is a smart way to reduce your Bitcoin tax liability. Individual contributions you make to an IRA are deductible up to a certain amount. Employer contributions may be eligible for deductions as well in certain instances. Also, the income you earn from your Bitcoin trades in your IRA could potentially be tax-deferred until you withdraw them.
Here are a few platforms that specialize in virtual currency IRA trading:
Purchasing Them From A Bitcoin Exchange Against Real Currency
Everyone cannot be a bitcoin miner. Hence, you can consider buying bitcoins from bitcoin exchanges and store them in an online bitcoin wallet in digital form. Unicorn, Bitxoxo, Zebpay, Coinbase etc., are some of the bitcoin exchanges presently in India. Such bitcoins would be purchased in consideration for real currency.
It would be interesting to note that currently, the value of 1 bitcoin is approximately about INR 31,99,620.
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Buy Gold With Bitcoins
One of the best options that any person can use is to buy gold with their bitcoins. The best thing is that gold is a tax-free asset. You can buy as much as you want to buy. Now they are offering their assets for exchange. It was never easier to avoid the taxes than investing your cryptos into the gold.
This is one of the best ways to keep your savings without even losing some amount through the transaction process. Also, gold is a very significant asset to avoid your taxes, and there is no sign of ups and downs.
Which Country Has No Tax On Cryptocurrency
Many countries offer no taxes on cryptocurrency transactions, depending on your specific circumstances. Some of these countries include Germany, Singapore, Portugal, Belarus, and Switzerland. They may tax business cryptocurrency income or tax cryptocurrency in some other fashion, so its important to discuss this with a tax advisor. Tax laws also change constantly, so you need to stay up to date on any changes.
And while several countries have no tax on cryptocurrency, this does not help U.S. citizens. U.S. citizens are taxed on their worldwide income, including cryptocurrency gains. You would have to renounce your U.S. citizenship to avoid this worldwide income tax.
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How To Invest In Crypto Tax
Roth IRAs have been attracting a lot of media attention lately. While these reports have prompted questions about wealthy investors using Roth IRAs as tax shelters of sorts, companies like Alto are helping ordinary investors realize the true potential of these retirement plans.
Why are so many wealthy investors housing massive investments within Roth IRAs? Unlike traditional IRAs, which well discuss in a moment, investments in Roth IRAs are not tax deductible.
Instead, they offer a potentially greater benefit: Roth IRAs allow your investment to grow completely tax-free, so long as you wait until six months after turning 59 to make your first withdrawal and youve had a Roth account for at least five years. Not to mention, there is no requirement to begin taking minimum distributions at age 72, as with other IRAs.
When it comes to crypto, this is huge. No matter how many times you sell or trade crypto, or how much your investments grow, you wont pay a dime in taxeseither in capital gains or when you go to withdraw. Even if you had invested $1,000 in Bitcoin in 2011the equivalent of around $3 million todayhad you done so within a Roth IRA, you would owe nothing in taxes.
So with tax-free withdrawals, why would anyone invest in a traditional IRA?
Roth IRA Contribution Limits
In 2021, individuals whose modified adjusted gross income is $140,000 or more are ineligible to contribute to a Roth IRA.
Give Up Your Us Citizenship
The most dramatic way to stop paying the IRS for your cryptocurrency gains is to give up your US citizenship. Once you expatriate, the IRS no longer has any right to your earnings. Would you give up your citizenship simply to avoid taxation? Its become a hot topic of late due to excess gains US citizens have pulled in in recent years.
Again, US citizens pay US tax on their capital gains and cryptocurrency gains no matter where they live. If you move to Panama, but keep your US passport, you still pay US tax on your trading profits. The only way to get rid of the IRS forever is to turn in your blue passport.
To give up your US citizenship, you may need to pay an exit tax and must have a second passport in hand before turning in your US travel document. Without a second passport, theres no way to expatriate from the United States.
You have two choices when it comes to getting a second passport. You can buy one from countries like Malta , Dominica or St. Lucia , or you can earn one over time by becoming a resident of a foreign country.
For example, you can become a resident of Panama with an investment of $20,000. After 5 years of residency, you can apply for citizenship and a second passport. So, you can either buy a passport or earn one through residency.
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How To Determine The Cost Basis Of Crypto Reporting Bitcoin To The Irs
There are a few specific instances in which your Bitcoin may not be taxed. For example, if you receive Bitcoin as a gift, or donate it to a charity, you will not be required to pay taxes on it.
However, if you sell or trade a Bitcoin that was gifted to you, you will need to know the original cost basis of the Bitcoin in order to calculate taxes. A breakdown:
- If it is a gain, the cost basis is the value of the Bitcoin when the donor made the original purchase and any gift taxes that the donor may have paid.
- If there is a loss, the basis is the lesser value between the donorâs cost basis or the fair market value at the time you received it.
- If thereâs absolutely no way of knowing the donorâs basis, then you can record a cost basis of zero dollars.
Though this may be a confusing process, it is critical to keep detailed records of each cryptocurrency transaction. Because digital currency is still so new, paying taxes on Bitcoin is not as straightforward as owning stocks.
For example, not all cryptocurrency platforms issue a 1099 form, which would make the process more straightforward. In these situations, it is entirely the responsibility of the currency owner to notify the IRS of any gains or losses. The way Bitcoin is taxed can be confusing, but by keeping a careful record of its value over time, you can rest assured your reports are accurate and avoid any penalties or fees from the IRS.
What Is A Disposition
This refers to the way you get rid of something, such as by giving, selling or transferring it. In general, possessing or holding a cryptocurrency is not taxable. But there could be tax consequences when you do any of the following:
- sell or make a gift of cryptocurrency
- trade or exchange cryptocurrency, including disposing of one cryptocurrency to get another cryptocurrency
- convert cryptocurrency to government-issued currency, such as Canadian dollars
- use cryptocurrency to buy goods or services
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Buy Bitcoin In Your 401k
This is an indirect way to own bitcoin. You can buy the Bitcoin Investment Trust stock in most stock brokerage accounts. GBTC is an OTC stock thats essentially an ETF with one asset. With each share of GBTC you are owning 0.001 bitcoin. So you would need to buy 1,000 shares of GBTC to own a whole bitcoin.
The advantage of buying GBTC over actual bitcoin is that you dont need to worry about the security issues with bitcoin wallets, and tax reporting is extremely straightforward, any stock brokerage, such as SureTrader, will calculate long term and short term taxes on your GBTC trades just like another other stocks.
To avoid paying taxes legally on GBTC, you just need to find a tax efficient way to own GBTC stock. The most common way is your 401k. Or for the less fortunate, if you had huge carryover capital losses from previous years, you can offset all your future GBTC gains with the carryover losses and not pay taxes on it as well.
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Before you buy, we should note that GBTC does trade at a high premium to NAV, trading typically around 60% to 80% premium to the actual price of BTC. That is due to the high liquidity of this stock and the fact that it is extremely low maintenance compared to owning actual bitcoin. As long as planned bitcoin ETFs do not get approved in the near future, GBTC is the only game in town as far as bitcoin ETFs go, so GBTC should continue to trade at this preimum level until competition arrives.
Discover A Better Way To Invest In Crypto
Whether youre new to crypto and intimidated by the tax filing requirements or an experienced trader looking for a more tax-efficient way to invest, a crypto IRA could be the smartest way to invest.
Alto CryptoIRA® gives you access to more than 80 currencies with 24/7 real-time trading and $10 investment minimums. Plus, all the tax advantages of an individual retirement account.
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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.
However, a November 2021 law will require greater tax reporting for those in the industry starting on Jan. 1, 2023. The law requires brokers including controversially, anyone who moves digital assets for another to report that info to the IRS on a 1099 or similar form.
Opponents say the law would require anyone who moves cryptocurrency, including miners and crypto wallets, to the new rules, including those who have no access to that info. However, lawmakers are already working on a new bill to more narrowly define who the law applies to.
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.
Example : Trading One Type Of Cryptocurrency For Another
On July 30, 2018, Francis bought 100 units of Ethereum, which had a value of $20,600. For this purchase, Francis used 2.5061 Bitcoins, which were trading at $8,220 per unit on that day, or the equivalent of $20,600. We consider that Francis disposed of those Bitcoins. Francis originally bought those Bitcoins for $15,000 and exchanged them for 100 units of Ethereum at a value of $20,600, resulting in a capital gain. It is calculated as follows:
$5,600 capital gain
$5,600 capital gain taxed at 50% = $2,800 taxable capital gain
If, on the other hand, the original purchase price of the 2.5061 Bitcoins had originally been $25,000, but at the time that Francis exchanged them for 100 units of Ethereum they were worth only $20,600, he would have a capital loss. It is calculated as follows:
$4,400 capital loss
$4,400 capital loss × 50% = $2,200 allowable capital loss
This example assumes that the cryptocurrency in question was held as an investment on account of capital however, if this transaction occurred in the course of conducting a business, the entire amount of $5,600 would need to be reported as income in the first transaction and the entire $4,400 would be reported as a loss in the second transaction.
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How To Minimize Crypto Taxes
Now that you know a bit more about crypto taxes, which is really just another way of saying capital gains taxes, you will want a set of strategies to minimize how much you pay to the IRS. Here are some useful tips to reduce your tax bill.
1. Hold Until Your Short-Term Gains Turn Into Long-Term Gains
As just noted, different capital gains rates will apply depending on how long you own cryptocurrency. If you want to lower your tax bill, hold your cryptocurrency long enough to turn your short-term gains into long-term gains. It may not be an easy task, but if you have the patience and fortitude to keep your crypto for at least a year before selling, then youll likely pay a reduced tax rate on any capital gain.
Heres an example: Mary, a single taxpayer, earns $70,000 in wages for 2021. She also has $5,000 in capital gains from the sale of cryptocurrency. If the gain is short-term gain, shell have $75,000 of ordinary income. After claiming the standard deduction, that leaves her with $62,450 of taxable income, which puts her in the 22% tax bracket and results in a tax bill of $9,488. However, if the gain is long-term gain, the $70,000 of ordinary income, minus the standard deduction, is still taxed in the 22% bracket, but the $5,000 of capital gain income is only taxed at 15%. That means an overall tax of $9,138 and a savings of $350.
2. Offset Capital Gains with Capital Losses
3. Sell In a Low-Income Year
If Your Bitcoin Is Stolen Tough
Being robbed is bad enough, and previously if youd been swindled of your bitcoins, you might have been able to deduct it as a theft loss on your taxes. However, the new tax rules do away with the deduction for personal theft losses.
Another tax rule doesnt look favorable for owners of digital currency, either. The IRS allows owners to trade many kinds of property for a similar kind of property without immediately incurring a tax liability its called a like-kind exchange.
Before the tax law changes, bitcoin owners wanted to know whether they could engage in like-kind transactions with other cryptocurrencies. The answer was unclear, Harris says. What was unclear was whether one crypto was like-kind to another. Now the new tax reform has limited like-kind exchanges to real property, not personal goods.
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