The answer to the question- Do you pay cryptocurrency taxes, in a single word would be yes! But, the reality is way more complicated than just a simple yes or no.
It has been more than a decade that cryptocurrency has come into existence, but the matter itself and its taxation is ambiguous for many.
In this article, we will untangle all the troubles that one might encounter when filing cryptocurrency taxes.
Official IRS Tax Guidelines
The Internal Revenue Service had released an official notice in 2014, where it stated that cryptocurrency would be treated as property, as compared to real estate, and would not be categorized as currency. The IRS was very particular about the taxation of crypto gains arising out of cryptocurrency transactions and holding and stated that these capital gains and losses must be reported to the IRS, by filing respective documents.
Here’s a summary of the Notice 2014-21 of the IRS:
- According to holding time, cryptocurrency gains and losses can be classified as short-term capital gains or losses and long-term capital gains or losses. The former is when one holds their cryptocurrency for less than one year and the latter is when it exceeds a year
- If one receives income for a product or service, it is not treated as currency, but subjected to capital gains and losses
- Crypto mining gains are also considered ordinary income and must be reported to the IRS. Also, when these gains are exchanged for fiat currency, they are taxed as capital gains
- Receiving crypto from airdrops after a hard fork will be considered as ordinary income. This will be equated to FMV or the fair market value of the new crypto thus received
Taxable & Non-Taxable Events
Here we have categorized crypto activities into taxable events and non-taxable events. This will be important to you when you are recording your transactions for taxes.
Taxable Events
- Selling mined crypto to a third party
- Selling bought crypto to a third party
- Selling crypto in exchange for fiat currency like US Dollar, Euro, Yen, etc
- Buying goods and services using mined Bitcoin
- Trading crypto for another crypto (such as BTC for ETH, and the likes)
- Receiving crypto from airdrops after a hard fork
Non-Taxable Events
- Buying cryptocurrency with fiat
- Donating or gifting cryptocurrency
- Transfer of crypto from one wallet to another wallet owned by you
How Is Crypto Tax Calculated?
In order to calculate your crypto taxes, you must determine your capital gains or losses, for which you have to calculate the cost basis for each crypto transaction (taxable event) you’ve made. There is a very simple formula that’ll help you determine your cost basis:
Cost Basis = (Purchase Price in USD + Fees) / Quantity
For this, it is necessary to note the following whenever you’re making a transaction:
- Date and time of acquiring each unit
- Your basis and the FMV at the time they’re acquired
- Date and time of selling, exchanging, or otherwise transferring each unit
- FMV at the time of selling, exchanging or transferring each unit
- Amount or value received for each unit
Now, how to calculate the capital gain or loss?
The capital gain or loss= Fair Market Value (FMV) – Cost Basis
For instance, you acquired Ethereum for $600 and have sold them when it was valued at $800. So, you have a capital gain of $200. Now suppose, the transaction was taxed at 14%, so you’ll owe $28 tax on this specific crypto transaction.
The Bottom Line
Cryptocurrency taxes can be a complex topic. And its calculation can be even more complicated. In order to ease your tax filing process, you can also take the help of various crypto tax calculations software that not only help you calculate your taxes, but also provide professional guidance and ways to minimize crypto taxes and help you harvest tax losses.
ZenLedger easily calculates your crypto taxes and also finds opportunities for you to save money and trade smarter. Get started for free now or learn more about our tax professional prepared plans!
FAQs
- Do you pay cryptocurrency taxes?
The Internal Revenue Service had released an official notice in 2014, where it stated that cryptocurrency would be treated as property, as compared to real estate, and would not be categorized as currency. The IRS was very particular about the taxation of crypto gains arising out of cryptocurrency transactions and holding and stated that these capital gains and losses must be reported to the IRS, by filing respective documents.
- What are short-term and long-term capital gains and losses?
According to holding time, cryptocurrency gains and losses can be classified as short-term capital gains or losses and long-term capital gains or losses. The former is when one holds their cryptocurrency for less than one year and the latter is when it exceeds a year.
- How to calculate the cost basis of crypto transactions?
In order to calculate your crypto taxes, you must determine your capital gains or losses, for which you have to calculate the cost basis for each crypto transaction (taxable event) you’ve made.
