Cryptocurrency Taxes: Everything You Wanted to Know
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Is the Process to File the Tax Complicated?
If you have done your own taxes before, then you know that it can be quite complex. However, with cryptocurrency taxes, it is not nearly as difficult if you have only made a few transactions. If you made many transactions during the year, then it will take you a bit longer to complete.
Also, there is no difference in the IRS’s eyes between the different cryptocurrencies there are available. They are all treated the same, and so that means you don’t have to worry about complicated processes for each type of cryptocurrency.
How is a Cryptocurrency Tax Defined under the IRS?
According to the IRS, even though cryptocurrencies function like real currencies, there is still no legal basis that makes it a currency in any administration. Therefore, it is not a currency but rather considered to be intangible property. It will be shown as a capital asset that you own and so will be given the same treatment as your personal property. If you’re getting paid in crypto coins, you need to include the market value and your gross income at the time it was traded.
You should report it in U.S. dollars. If you’re a crypto miner, you need to file cryptocurrency taxes by stating the fair market value in your transactions in dollars. However, there are no guidelines regarding the accounting approach for cryptocurrencies.
What is a Taxable Cryptocurrency Transaction?
The way cryptocurrency taxes work, there are transactions where a ‘taxable event’ (a transaction where you owe the government taxes) occurs. This happens with cryptocurrencies when they switch hands between people. Therefore, if you sell your cryptocurrency and make a profit, this profit will be counted as a gain. If you had the cryptocurrency for longer than one year, then it is a long-term capital gain, but if it was with you for less than a year, then it is a short-term capital gain.
As such, using cryptocurrency to make a purchase is also considered to be a taxable event. This is because the way the IRS looks at this transaction is completely different from a trader. When you use cryptocurrency to purchase another, here is the process they go through:
E.g., You have Bitcoin that you want to use to purchase Ethereum. The transaction involves converting the Bitcoin into US$ and then using this converted cash to purchase the new Ethereum. Therefore, because you made a currency conversion, and it resulted in there being a profit/loss, it is considered a taxable transaction.
The only time a transaction is not taxable is when you make a transfer between online wallets. Since there is no currency conversion here and the currency did not exchange hands, this cannot be taxed.
Capital Gain Rates
The way each capital gain is taxed is different. Short-term gains are taxed in the same way as your regular income tax. Long-term gains, however, will depend on your current tax bracket and will be taxed at one of 0%, 15%, or 20%.
At this point, there is no limit to how much of your capital gains can be taxed. However, if they are at a loss, this can be carried forward up to a value of $3,000 every year. This will lead to your taxable income being reduced. Eg. If you have a taxable income value of $33,000 for a year, then it will re-set to $30,000 for that year.
This, however, will only happen if you have made no capital gains that year. If you have, this loss will be matched against the gains, and only the remaining balance will be brought forward to your taxable income. You can bring the $3,000 forward every year until the loss is fully covered.
What is a ‘cost basis’?
In layman’s terms, a cost basis is the value of dollars you paid for a cryptocurrency when you purchased it. In order to determine whether you made a profit/loss for any transaction, you will need to know the cost basis of the cryptocurrency.
Let’s take an example to make it simpler. E.g., You purchased Bitcoin for $1,500 and then decided to exchange this Bitcoin for Ethereum the following year. At the time of exchange, the value of your Bitcoin has risen to $3,000. As a result, your cost basis would be $1,500 for Ethereum and $1,500 as a long-term capital gain from the sale of your Bitcoin.
You can get this pricing information online from cryptocurrency wallets or through one of the currency exchanges that you use to manage your cryptocurrency.
Calculate your capital gain/loss
If you have done only a few transactions, then finding out whether you have a capital gain or loss is as simple as reducing your cost basis value from the selling price. However, if you have done many transactions then there are a lot of factors to consider such as pricing points at the different times you made the transactions which can get complicated. You would be better off using tax software to help you with the process. Thus, If you’re trading through cryptocurrencies, filing for cryptocurrency taxes is essential. And for that, knowing the process of filing is essential.