Tax season has arrived. Here’s what that means for crypto investors who rode through last year’s wild market roller coaster.

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Tax season is upon us, and crypto investors who have been on the wild ride of 2021 are likely starting to think about what that means for their portfolios.

As with other investments like stocks, if you buy a digital asset and hold onto it, you don’t have to do anything, said Charles Kolstad, a partner at Whiters law firm that focuses on crypto assets and blockchains.

However, once you process a transaction, it immediately becomes a taxable event. This includes selling your crypto, exchanging it from one token to another, mining crypto, and earning interest on your asset, among others.

And although the Internal Revenue Service has published a comprehensive list of 46 frequently asked questions on its website, the agency still lacks a detailed list of crypto transactions, said Olya Veramchuk, director of tax solutions at Lukka, a provider of crypto assets data and software. .

“Current crypto guidelines are so limited that it’s always best for taxpayers to understand exactly the type of transactions they’ve engaged in and then try to compare them against the existing framework,” Veramchuk told Insider.

She explained that different types of transactions generate different types of taxes. For example, the sale of a crypto asset may trigger capital gains tax, while more advanced activities ranging from staking to yield farming may trigger ordinary income taxes.

Then there are the gains from certain transactions that do not fall into a particular category, such as token wrapping, contribution and withdrawal from liquidity pools, bridging of multi-chain assets, among others, that she detailed in a blog post. This is why Veramchuk advises taxpayers to consult experts when in doubt.

The story continues

The IRS first issued its guidelines on virtual currencies in 2014, stating that they should be treated as assets – not currencies – for federal income tax purposes. Yet it wasn’t until 2019 that the agency asked about crypto in a Schedule 1 form and only in 2020 when it placed the question prominently in Form 1040, the documents that US taxpayers use to file their annual tax return.

“At any time in 2021, have you received, sold, traded, or otherwise transferred a financial interest in any virtual currency?” as seen in Form 1040.IRS

Kolstad said he’s often asked if the IRS cracks down on these so-called “tax gaps” or the difference between what a taxpayer pays and what they owe. IRS Commissioner Charles Rettig estimated in April 2021 that the annual tax gap could exceed $1 trillion.

“What I tell them is that the taxman may be slow, but they’re not stupid,” Kolstad told Insider, referring to clients who have asked him about people’s perception of these shortcomings. the agency. “That’s why they put it on the front page so nobody could say, ‘oh, I didn’t know.'”

He broke down three general types of income that crypto investors should be aware of:

Ordinary income – returns from activities such as staking and mining

Short-term capital gains – assets held for less than one year and taxed at the ordinary income rate

Long-term capital gains – assets held for more than one year and taxed at reduced tax rates

Once you have identified your type of income, Veramchuk has explained the different accounting methods you can use to calculate your capital gains or losses.

There is the “highest, first out” (HIFO) method, which allows the investor to sell the asset at the highest price at which they bought it in order to reduce capital gains. There’s also the “first in, first out” (FIFO) method, which she said the IRS defaults to, as well as the “last in, first out” (LIFO) method, which takes the purchase of the most recently purchased asset as the first to be spent.

Taxpayers can use any method. What is important, she says, is the rigor of your record keeping.

“The crypto industry is eagerly awaiting guidance from the IRS and Treasury as the crypto ecosystem is growing so rapidly,” Veramchuk said. “A lot of people would like to be as specific as possible in their reports, but we need a more detailed framework.”

In 2021, the total crypto market capitalization briefly surpassed a record high of $3 trillion, with bitcoin peaking at nearly $69,000 to hit an all-time high in November.

Tax season started on January 24 and ends on April 18 for most taxpayers.

Read the original article on Business Insider

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