If so, how much do you have? You may have acquired Bitcoin for $100 a few years ago and chosen to cash in on the gains this year. It's also possible that you acquired some Ethereum late in the game and then sold it for a profit. Your 2021 tax bill might affect your bitcoin transaction, regardless of how you choose to do it.
Cryptocurrency Taxation: How Does it Work?
For better or worse, cryptocurrencies like Bitcoin and Ethereum are subject to capital gains tax restrictions. The Internal Revenue Service (IRS) considers all bitcoin to be capital assets, and when they are sold at a profit, you must pay taxes. Like stocks and mutual funds, traditional assets can also be sold for a profit.
The amount of capital gains taxes you owe depends on how long you've owned your cryptocurrency. If you haven't been in business for more than a year, your profits are taxed at standard income tax rates or short-term capital gains rates.
Do You Have to Report Cryptocurrency Trades?
1. Buying Cryptocurrency with US Dollars
It does not mean you will owe taxes on your virtual currency just because you bought it with dollars and retain it in the exchange where you bought it or move it to your wallet.
There is no need to notify the IRS if the only crypto-related action you engaged in this year was the purchase of a virtual currency using U.S. dollars, according to the instructions on your Form 1040 tax return.
2. Cryptocurrency trading
When you utilize crypto as a means of exchange, you're subject to taxation. This involves trading one cryptocurrency for another, swapping Bitcoin for Ethereum, or using crypto to pay for products and services.
Daniel Johnson, a financial adviser and founder of RE|Focus Financial Planning in Asheville, North Carolina, explains that when you sell or swap one investment for another investment, that is when a taxable transaction occurs.
3. Buying or Selling NFTs
Whether it's a digital sports collectible or an animated flying cat with a Pop-Tart body, an NFT, or a non-fungible token, it is a blockchain token that confirms you are the sole owner of that one-of-a-kind digital object.
OpenSea and SuperRare are digital markets where you may purchase and trade NFTs. They are also taxed, just like crypto. As a result, it can be a bit difficult to manage because the IRS has not issued any particular tax guidance on NFTs.
When Do You Have to Pay Taxes on Cryptocurrency?
To calculate your taxes on virtual currencies, the IRS looks at your capital gains and losses over a specific period and the amount of money you own in the currency in question. According to CPA Shehan Chandrasekera, head of the tax strategy at cryptocurrency tax software company CoinTracker.io.
Indicating Cryptocurrency Profit
People who provide services may be compensated with virtual money. Cryptocurrency can be used as a kind of income instead of cash, or it can be used as an incentive for particular behaviors (like Coinbase's Earn rewards program).
It doesn't matter how it's generated, and you'll have to disclose that income on your tax return, regardless of how it's received in U.S. dollars.
Pat White, co-founder and CEO of Bitwage, a startup that helps businesses with crypto tax reporting, says, "If I am paid one Bitcoin for services, I have to grab the fair market value for that Bitcoin when I receive it."
Track Your Progress
Keep in mind that you are responsible for keeping track of all your potentially taxable actions and the fair market value of your bitcoin at all times when you begin trading in cryptocurrencies.
When it comes to keeping documents for tax reporting reasons, the IRS provides only broad guidance: they should be enough "to demonstrate the positions taken on tax returns."
The agency cites records of when you receive, sell, or exchange virtual money and the fair market value of your virtual currency as some examples.
Cryptocurrency Owners: Tax Season Preparation Tips
The easiest way to make your crypto-related 2021 tax file as simple as possible is to start planning. While waiting until April 1, 2022, maybe how you usually approach tax season, don't wait until then to start compiling your records and figure out what you owe! Attempting to catch up on a year's worth of crypto activity in April is not something you want.
Consider Working with an Expert
If you have doubts regarding your unique tax requirement or are unclear if you're reporting appropriately, consider dealing with an experienced tax expert who has a working knowledge of the tax legislation relating to virtual currency.
The IRS and other agencies can't cover every possible circumstance that a taxpayer could encounter, and there are many gaps in present advice.
