Cryptocurrency and Tax

in #crypto3 years ago

We get a lot of questions regarding the panic about tax and Crypto. The following is not TAX advice and should not be treated as such. Do not quote this article as a defense for not paying taxes that may be due on your Crypto activity. The only advise we will absolutely give you is this: Find a Tax professional to help you file your taxes if you have questions. If you owe tax, pay it. For those of you who don’t take this advice, think of the doctor operating on himself and good luck.

In it’s simplest form the rule is this: If you buy and sell, or simply sell something for more money than it cost you, you owe tax. PERIOD. If you make $4.00 on a trade it is reportable. Lately, I have found a surprising number of people with really impressive educations and job titles who just cannot or will not understand this simple rule.

With the myriad of recent announcements from investment-agents and trading platforms alike relative to IRS rules regarding Crypto, we thought we’d weigh in an attempt to offer some simple understandable clarity. Some of this may seem like, “if you have two apples and Jane gives you three oranges,” but sadly, I actually had to use this exact example with a very smart person recently. Why, because he bought 4 Bitcoin at $1200 and sold them @ $19,000 each ($76,000) and then he purchased a new Corvette for the wife. Now he’s discovered that he owes $13,000 in capital gains tax and he doesn’t have it.

YES, if you traded or sold crypto there is almost a certainty you owe tax. First, nothing has changed in tax law. The IRS is not singling out Crypto in some conspiratorial attempt by the evil government to KILL CRYPTO. The IRS is merely reminding people that when you make money on a financial transaction, gains are taxable. That includes crypto. This is not new. It’s always been true. What is new is that people who normally file a simple 1040 tax return may now find themselves having to report gains and in need of a tax professional.

Understand that crypto is property. It’s not currency. It's a thing, just like stock, a house, a painting or any other real property and subject to Capital Gains Tax. ( And you are fortunate that it is property. Because if it was not it would be ordinary income taxed at a much higher rate.

A capital gain happens when you sell anything for more than you paid for it. Technically, when you buy a car from your aunt for $1000 and sell it for $2000 a week later you have a capital gain you are required to report. Most people don’t because, who’s gonna know?

The confusion with Cryptos is that every day people now have easy access to trading platforms that make buying and selling crypto almost a game. It’s not.

So how come you owe tax on your Crypto?

The IRS rules say that any time you sell or transact a thing of value, even if it's not for cash, you must report any gain. If you trade the 1965 Mustang that you bought as a kid for $3000 for a hunting cabin worth $40,000 you owe cap gains on $37,000. And if you don’t pay them on the trade (you should) you will pay them when you sell the cabin.

For our Crypto examples, we will use BitCoin, (BTC) because everyone knows what it is. If you own crypto, you most likely own Bitcoin.

In its most basic form these are the types of transaction many people have participated in:

1.You bought 2-BTC for $1. You put them in a wallet and now they are worth $16,000 each. ($32,000) You owe no tax. BTC can rise to $1,000,000 and you’d owe no tax until you started spending it or sold it. Transferring your money from one wallet to another is the same as changing banks. No event. The IRS is looking for exchanges in which you gained.

2.You transfer one of your BTC to your Coinbase account. Still no tax yet.

3.You sell 1/2 of your BTC for $8,000 and buy $8000 of Lite Coin. You have now traded/sold something for $8000 that you paid $.005 for. You have a gain of $7,999.005 (Gross gain minus cost and fees) taxable at a rate determined by your annual income. It could be zero tax or 15% or 20% depending on your annual reported income. Remember when Coinbase asked for your SS#? They will not know your cost basis for the BTC you transferred in (what you paid) so they will report to the IRS that you sold BTC for $8,000 whether you like it or not. In this case, it is your responsibility to report the sale, your cost basis, and your gain. If you fail to do this, understand that the IRS will most likely ruin your life.

  1. You sell 1/2 of the Lite coin that you bought for $8000 ($4000 cost basis) for $5,500. You have a $1500 gain. The net is again the sale price minus the cost basis and cost basis includes deducting transaction fees.

  2. Let's say you linked your Coinbase (CB) account to your bank account and rather than transferring in 1/2 (.50000) BTC you bought it thru CB for $8000. The only thing that changes is CB will now report both your cost basis, selling price, fees and your gain to the IRS. So if you paid $8,000 for btc and sold it for $8000, no gain if you then bought $8,000 of LTC, no gain. But when you sell 1/2 the ltc for $5,500 you have a $1,500 gain.

If you go to your tools in CB, and most other trading platforms also, you can run reports for all transactions including a cost basis/gain report for any period, which you can then export to and generate comprehensive tax reports.

The bottom line is if you buy and hold Cryptocurrencies you are most likely free from concern. If however, you buy and sell you will absolutely have reportable transactions. The upside is each transaction by itself is not a taxable event. It is, however, a reportable event. Taxes are due on NET gains annually. This means that at the end of the year you add up all your gains and losses and either report a gain or you report the loss. You report the loss because in most cases you can carry losses forward into another tax year to be used against future gains. Even if you traded 100 times in 2017 and only made or lost $1200, that $1200 is reportable.

Now let’s look at another scenario.

  1. You started investing with an agent or your friend Bill. You gave Bill $1000 in January 2017. Bill bought BTC with your $1000 and traded it numerous times during the year.

In december, you want your money back. Bill sends you $3,000. You have a $2,000 gain. Now you may think the tax is on Bill. Well, it is and isn’t. If Bill has your SS# he will report the payment to the IRS just like you were partners on a house flip that was in his name. If Bill is smart he has your SS#. If not he can still report the payment to you on his taxes and the IRS will come after you if you have failed to report it. If Bill is not a complete idiot he will not send you your money until you give him your SS#.

But then there are always the people who think they can fool the IRS. You may not understand the blockchain you have been investing in, but every transaction on the chain is saved forever. So Bill does you a favor and keeps 15% of your $2000 gain and he pays the tax and sends you $1700. Congrats. Now you still owe the tax on $1700, and it's probably going to be considered ordinary income at a much higher rate. It gets better. You are both now most likely guilty of conspiracy to defraud the government, money laundering and tax evasion.

(if you never sell, the IRS cannot find you and won't want to, but if you traded on any exchange your transaction keys are stored and tied to your name and they will know everything you buy or sell or transaction you ever made on or off the exchange.)

I’m not sure how it all will work out when the smoke clears, but go see a tax professional. There are trading strategies that I will not go into that can help manage your gains.

Pay your tax. It’s a small price to pay to live in this country. The IRS is just doing its job. You do not want to them doing it to you.

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