As of today, tech enthusiasts are not the only ones concerned about mining, investing, and trading cryptocurrencies. The involvement of several other personas, like regular traders and investors, proves that it has truly come a long way. As part of this growth, one now has to navigate the tax complexities that have become a part of this market.
To avoid penalties associated with violating taxation laws, especially those that relate to cryptocurrency, traders in this market must now familiarize themselves with what is required of them. There are two recommendations for those in this category. First, hire an expert crypto tax accountant, and second, have a basic knowledge of these laws. Even if you are familiar with regular tax laws, cryptocurrency taxes are more complicated than you think.
In this article, we will be taking a look into some of these complications.
Complexities of Cryptocurrency Tax Laws and Compliance
Approaching cryptocurrency taxes, the same way one approaches regular capital gains or income would lead to issues. This is because the process is not that simple, especially for aspects like tax filing.
As a result, knowledge of the complexities puts you in a position to navigate them more efficiently. Bearing this in mind, some things to know include the following:
It is Not Treated as Currency but Property
Many crypto holders look at them as currencies, considering the fact that they are mediums of exchange and that they can facilitate online transactions just like traditional currencies. However, the IRS (Internal Revenue Service) considers them as properties as opposed to currencies. As a result, you are taxed for holding a property rather than a currency. You can learn more about this here: https://dc.law.utah.edu/.
One implication is that you must pay tax nearly every time you transact with cryptocurrency. This applies whether one sells, trades, or even uses them for purchases. For better context, this means that something as little as using your digital coin to pay for a meal is taxable.
There are some reasons why the IRS classifies cryptocurrencies as property. Some of these include their high volatility, usage as a store of value, and regulatory treatment as properties in some other climes.
Almost All Transactions Are a Tax Event
Tax laws apply to nearly all transactions that involve cryptocurrencies. Some examples of transactions that are taxable include:
- Purchase of Goods and Services
- Conversion to Fiat (Such as USD and British Pounds)
- Trading one Cryptocurrency for Another
Imagine purchasing a digital currency like Bitcoin at a rate of 1000 United States dollars and eventually trading it for Ethereum after its value rises to 1800 United States dollars. Although this transaction was a trade rather than a sale, the IRS treats it as a capital gain of 800 U.S. dollars, which makes it taxable.
Tax Treatment Determined by Transaction Type
While nearly all transaction types are taxable, there is no one-size-fits-all structure for them all. The transaction type determines tax treatments.
For example, the IRS will not tax mining and staking transactions the same way as airdrops and forks. The following outlines how certain transactions are subject to taxation:
- Airdrops and Forks – These are considered income and are taxed as such. The irony is that this law still applies even if the airdrops and forks were unsolicited.
- Buying and Selling – Time is crucial in determining how much tax applies. Essentially, the IRS views these transactions from the angle of capital gains and losses.
- Mining and Staking – The IRS considers it ordinary income. As a result, the IRS seriously considers fair market value at the time of reception.
- Non-Fungible Tokens (NFTs) – Capital gains or loss tax laws apply. Even NFT creators may owe when they sell
Concerned people need to understand the tax treatments that apply. This is to ensure compliance and avoid penalties for violation.
Record-Keeping and Tracking Challenges
Most people who perform cryptocurrency transactions have their assets spread across various wallets or exchanges. There are benefits of doing this, and they include:
- Risk Mitigation
- Access to a Wider Range of Services and Features
- Enhanced Security
- Reduced Risk of Exchange Failures or Hacks
While these are great reasons to do this, it presents challenges. There is an increased challenge of record-keeping and tracking, for starters. This stems from the fact that many of these wallets and exchanges have distinct ways of logging transactions. For example, not all of them offer detailed 1099 forms, leading to challenges in the areas of:
- Profit and Loss Calculation
- Accurately Determining the Duration for Which Assets Were Held
- Original Payment for Assets
You can learn more about the reporting guidelines for digital currencies in this article.
Conclusion
The IRS is cracking down on crypto users who violate its tax laws, and ignorance is no excuse. As a result, knowledge of some basics about these laws is important, which is why knowledge of crypto tax complexities is a great place to start. This article has delved into this subject for this reason.
Furthermore, you should highly consider hiring an expert crypto tax accountant for professional assistance. This is because the expertise of such a professional ensures that you play by the rules and even make informed decisions for profitability.
