Millions of people invest in cryptocurrencies, to the tune of billions of dollars in trading volume worldwide. With the increasing legitimacy of Bitcoin and other cryptocurrencies, these assets are becoming more and more popular in the investment world. However, most people aren’t sure what virtual currencies are, how they work, or how they impact their tax liability.
If you’ve bought or sold cryptocurrency this year, you may be wondering how – or whether – you should report your earnings or losses to the IRS. A qualified cryptocurrency accountant has the skills and expertise to guide you through the upcoming tax season in a manner that limits your tax exposure and gives you critical peace of mind about your financial security. The licensed Certified Public Accountants at Happy Tax have been trained on the latest rules and regulations affecting cryptocurrency investors, and the company has become a one-stop-shop for all of your needs this tax season. Before you dive in, however, here are some frequently asked questions that many cryptocurrency investors may want to consider.
What is Cryptocurrency?
Cryptocurrency – also known as digital currency, virtual currency, coins, or tokens – is a type of electronic payment. It doesn’t exist in physical forms, like traditional bills and coins, but it can be used to purchased goods and services. Some tokens are restricted to certain online communities, while others are increasingly available as retail payment methods in lieu of cash or credit cards.
Is Cryptocurrency Regulated by the IRS?
Yes. The IRS issued a policy notice in 2014 expressly stating that Bitcoin and other virtual currencies are taxable as property. While many investors believe that digital currencies fall under loopholes or exemptions to the tax code, this is far from the case. The IRS is ramping up enforcement against cryptocurrency investors, and the agency is even going after investors retroactively as far back as 2013.
Why Does the IRS Tax Virtual Currency as Property Rather Than Legal Tender?
In many ways, virtual currency operates just like legal tender. It can be exchanged, used for purchases, loaned out or given away. It is a store of value and a medium of exchange, but it is not considered legal tender in any U.S. jurisdiction. In the United States, the federal government is the only entity that can officially create money, and it has established the dollar as the legal tender. Unless Bitcoin or some other virtual currency legally replaces the U.S. dollar under federal law, it will be taxed as property or some other similar asset.
What’s the Difference Between Legal Tender and Property?
Under U.S. law, a property can be “real” – meaning buildings or land – or “personal” – meaning assets that you own other than real estate. Personal property can be tangible, like your car or your prized stamp collection, or it can be intangible, like the rights to a copyrighted image or musical score. So, cryptocurrencies would qualify as intangible personal property under U.S. tax policy.
If My Employer Pays My Wages in Virtual Currencies, Do I Need to Report this Income to the IRS?
Yes. Wages paid in virtual currency denominations are taxable to the employee. Typically, an employer must report the wages on a Form W-2, just like wage payments in traditional money. Virtual currency wages are subject to federal income tax withholding and payroll taxes.
If I Received Cryptocurrency for Work I Did as an Independent Contractor, Do I have to Pay Taxes?
Just like virtual currency wages, payments to independent contractors taking the form of Bitcoin or other cryptocurrencies are subject to the same tax rules most of us are already familiar with. Digital currency payments to independent contractors are taxable as self-employment income. The person or business who contracted the work must issue a Form 1099 for any payments of $600 or more, and freelancers should report this income on a Form 1099-MISC.
Cryptocurrencies Change in Value All of the Time – How Do I know What Value to Report to the IRS?
Virtual currency wages, self-employment income, or other payments should be reported using the full fair market value of the cryptocurrency at the time the payment was made. So, for example, if you are paid one Bitcoin when the price was $10,000, but the price increased to $12,500 by the time you file your taxes, you report the income as $10,000.
What If I Buy and Sell Cryptocurrencies for a Profit Rather Than Earn Them Through Wages or Self-Employment Income?
If you invest in cryptocurrencies, it’s likely characterized as a capital asset by the IRS. A capital asset is a significant piece of property like real estate, vehicles, stocks, bonds, or valuable collectibles like art or antiques. Capital assets owned for more than one year produce what is known as a capital gain (or loss). Capital gains are taxed differently than earned wages or self-employment income, and the rates vary based on your tax bracket.
On the contrary, capital assets owned for less than one year produce a short-term gain (or loss). Short-term gains are taxed at the ordinary income rate, which is determined by your taxable income. These tax rates are changing with the federal tax reform coming in 2018, so be sure that you’re up to date on how the new laws affect your investment.
I Usually Prepare My Tax Returns On My Own, Should I Consult a Professional if I’m Expecting Tax Liability From Cryptocurrency Investments?
Many of us use software and apps to help us manage our finances. However, when it comes to the fast-paced and constantly-changing world of cryptocurrency investments, not consulting with a tax professional when setting up or managing a virtual currency portfolio is a mistake.
Your hometown accountant may not be totally up to speed on the latest rules and regulations affecting cryptocurrencies. Fortunately for you, all Happy Tax CPAs have been specially trained in the tax treatment of Bitcoin and other virtual currencies. As a result, you can count on Happy Tax to get you the tax planning and preparation services you need to give you some much-needed peace of mind come tax season.