When you borrow money, the IRS doesn’t treat it as taxable income in most cases. Unlike many things the IRS does, this makes total sense. After all, you don’t make any income when you take out a loan. Rather, since you have to pay it back, they simply charge income tax on the interest the lender gets from you over time. You get no deduction and incur no liability – refreshingly simple!
Unfortunately, when it comes to cryptocurrency taxes, nothing is so simple. So, how does the IRS treat loans made in cryptocurrency?
Cryptocurrency Loans Versus Cash Loans
The IRS treats cryptocurrency as property, not cash. Loans made in cash are straight-forward exchanges of money paid in a lump sum now for a promise to pay it back later, usually with interest. This is a straight cash in, cash out exchange. However, loans made in the form of property are much more nuanced.
For example, imagine an art gallery is loaning a famous painting to an exhibition. If the exhibitors return a different painting to the art gallery, the gallery owner would probably complain. This is an obvious difference from a straight cash loan – after all, the lender doesn’t expect you to return the exact same bills he or she lent you in the first place. But how does this all add up for the IRS?
Well, unfortunately, this is a gray area of tax law. Most experts believe that the transfer would be treated as a sale of the original cryptocurrency asset rather than a loan. Unlike a cash loan, cryptocurrency sales are taxable under the capital gains rules. As a result, loans made in cryptocurrency may be taxable even though loans made in fiat currency are not.
Avoid Unnecessary Risk – Consult a Professional
Much of cryptocurrency tax law is untested. Since probing the bounds of the IRS cryptocurrency policies will most likely require you to appear before a judge, it’s better to just play it safe when it comes to your crypto investments. Until the tax agency shines more light on how it plans to tax (or not tax) cryptocurrency loans, your best bet is to talk to a professional cryptocurrency accountant before agreeing to these types of arrangements.
Fortunately, there’s help. Cryptocurrency investors can count on Happy Tax for the tax planning and preparation services they need to keep the IRS off their backs. The receipt of a cryptocurrency loan may be a taxable event, and the trained cryptocurrency accountants at Happy Tax can help you understand how these transactions can fit into your larger portfolio. By planning ahead, you can avoid a potentially costly misstep in handling your taxable cryptocurrency assets.