What you need to know about Bitcoin and taxes

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Source: greentradertax.com.

Yes, it’s that time of year again. The new year is upon us and we all need to start gathering the tax documents. Fun stuff, right? And if you have invested in bitcoin or sold bitcoin, then things get really fun.

The list of items below is intended to help you understand the most critical aspects of bitcoin tax reporting. And it’s worth noting that this specifically covers US taxes (although UK regulations are very similar).

Here’s what you need to know:

1. Bitcoin is taxed as property

This is true, just like stocks, bonds or real estate. Although it is often used as currency, it is not treated as currency for tax purposes. Each time you sell, spend, or trade bitcoins, you have executed a taxable transaction. You have a capital gain or less every time you dispose of your bitcoin, unless it’s by giving it to someone.

I know what you’re thinking. Well, I know what I’m thinking anyway: it requires a lot of detailed record keeping. In order to calculate capital gains and losses, you need to know your original cost basis. Now, crypto exchanges will keep a history of all your transactions, but they won’t report your cost base to you on a regular basis. Also, if you’ve moved parts or taken over, you really need to keep track of all your parts and their original costs. I’m thinking of a nice Excel spreadsheet. And stay there regularly. Your tax specialist will be delighted.

2. Bitcoins received from mining are taxable

If you mine bitcoin, each coin you mine is taxable as ordinary income. Don’t let the word “ordinary” fool you. Ordinary income, in IRS parlance, is taxed at higher rates than long-term capital gains. (“Long term” in the US means you’ve held the asset for a year or more.)

Not only is mining taxed as ordinary income, but also as self-employment income, so you will also have to pay social security and health insurance contributions.

Now you can write off all your expenses associated with mining, such as electricity, which is important. You can also amortize the cost of mining rigs over several years and, in some cases, deduct the full cost in the first year. It’s a nice advantage.

How do you track and report the income you have generated, in US dollars? IRS regulations state that your income is the fair market value of the bitcoin you mine on the day you receive it. So every day you have more income. Again, here is a great Excel spreadsheet opportunity.

Now, if you’re mining bitcoin as a hobby, you can simply report the income on your tax return as “other income”, and as such you won’t pay self-employment taxes like Social Security. and health insurance. The downside, however, is that you won’t be able to deduct any expenses from income. If you want to take advantage of the deductions, report income and expenses on US Schedule C.

Note: If you report income from mining, you now have a cost base for coins to use against future capital gains – no more record keeping.

3. How to answer “this question” at the top of the 1040 form

Source: Technologymanias.com

Above is what the draft 2021 Form 1040 “crypto question” looks like. Note that this is a slight change from 2020, when the question also included “sending” of any cryptocurrency. If you only bought bitcoin in 2021, you can answer “No”.

“At any time in 2021, have you received, sold, traded, or otherwise transferred a financial interest in any virtual currency?”

So, should we answer that? Yes, and you should answer it honestly. Will it get you audited? Probably not, since only 0.45% of taxpayers whose income is between $75,000 and $200,000 have been audited in recent years. If you answer the “Yes” question, the IRS may review your return and see that certain bitcoin transactions are being reported, primarily capital gains and mining income.

4. Being paid in Bitcoin, or paying in Bitcoin, are taxable events

If someone pays you for your services in bitcoins, this is taxable as self-employment income. Your income is the US dollar value of the coins you received on the day of payment. Similar to mining, you then have a cost base for these coins.

Similarly, if you pay someone else for their services with bitcoin, you just got rid of some coins. As such, you either have a capital gain or a capital loss on the trade.

5. Paying for Starbucks with Bitcoin is a taxable transaction

Although Starbucks makes some amazing drinks, you really shouldn’t pay for them in bitcoin because, yes, it’s a taxable transaction, every time you spend your bitcoin. Your next question: “Is there a de minimis exception for such a small transaction?” No not right now.

And that, in a nutshell, is the problem of having a property that acts as a currency, and a currency that acts as a property. There is no user-friendly taxation system yet to handle all Bitcoin transactions smoothly.

6. You can deduct losses from trading Bitcoin, but…

Capital losses from trading any asset can be used to offset capital gains, whether the gains come from bitcoins, stocks, real estate, or any property. That’s the good news. If you suffered losses in bitcoins, but gains in stocks, or vice versa, you can compensate.

If you had no gains to offset, or if your losses are greater, you can still deduct them this year. Taxpayers can deduct up to $3,000 per year in capital losses that exceed your gains. It’s not much, I know. However, you can carry forward these losses to deduct them from future years’ profits.

7. Exchanging Bitcoin for other cryptocurrencies is taxable

A like-kind exchange involves exchanging one asset for another similar one, usually two parcels of real estate. But there is no provision for “like” exchanges for cryptocurrencies. This tax provision allows the seller to defer the payment of capital gains tax on the profit until the time the second asset is sold.

8. Do bitcoin exchanges report transactions to the IRS?

Cryptocurrency exchanges do not report asset sales the same way brokerages do. Every sale of stocks or mutual funds is reported, so you must report every sale on your tax return, even if the sale does not result in a gain. Tax reporting by cryptocurrency exchanges is, at present, a mixed bag. And that’s something the US government wants to embrace.

For example, Coinbase, the largest US-based exchange, will not issue Form 1099-K or Form 1099-B to report cryptocurrency sales. So, none of your sales proceeds are shared with the IRS. You are solely responsible for reporting all your sales revenue and cost basis. The only transactions reported by Coinbase are any rewards or fees you may have earned during the year, and only if they exceed $600. These are reported on Form 1099-MISC.

Gemini takes a completely different approach. The company considers itself a Third Party Settlement Organization (TPSO) and as such files Form 1099-K for certain transactions. (A 1099-K is typically filed by merchant services companies to report funds being sent to retailers.) Gemini will only report if your digital asset sales have exceeded 200 transactions in a year and exceeded $20,000 in proceeds.

Binance, a Malta-based company, does not fall under the IRS and in fact no longer serves US-based traders. Binance previously issued Form 1099-K to certain traders.

9. Generally, you don’t have to pay taxes on Bitcoin donations to charity

Although by donating your bitcoin to charity you have effectively disposed of it, you will generally not pay taxes on the transaction, even if the value of the coins has increased. Even better, you may be eligible for a charitable contribution deduction equal to the amount of fair market value on the date of the donation — win-win. You can’t say that very often when it comes to taxes.

If someone offers you bitcoin, good for you. Best of all, it’s not a taxable transaction for you – a win-win situation, again. When you dispose of the coins in the future, your cost base will be the same as the person who gave it to you. So, in this case, a little communication will be necessary.

10. Key points to remember

Taxes can get quite complicated with bitcoin. Key points to remember:

Every time you dispose of bitcoins, it triggers a taxable event. Keep accurate and complete records of all purchases and sales. Don’t expect your bitcoin exchange to give you a nice and neat annual summary. bitcoin landscape

This is a guest post by Rick Mulvey. The opinions expressed are entirely their own and do not necessarily reflect those of BTC Inc or Bitcoin Magazine.

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