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Bipartisan Bill to Eliminate Taxes for Small Bitcoin Transactions
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Do I Have To Pay Taxes On Bitcoin?
What is the current outlook on bitcoin taxes, and what might the future hold as the network and asset grows?
While many joke about that unfortunate boating accident that magically makes all bitcoin disappear, the vast majority of us know that as the popular meme goes, “One does not simply not pay taxes.” This article is geared toward the U.S. tax code, as the way bitcoin is treated varies depending on jurisdiction. Once the IRS declared that virtual currency, such as bitcoin, would be taxed as “property” and not currency, it became the obligation of bitcoin holders to pay taxes on any gains (See IRS Notice 2014-21, Guidance on Virtual Currency, March 25, 2014).
These gains include, but are not limited to, earnings from any type of exchange or sale; gains from selling that may have been made upon the purchase of a good or service with bitcoin (including those lambos); and on fair market value of any mined bitcoin, as of the date of receipt. Needless to say, record keeping can be particularly burdensome for the unwary, inexperienced or careless.
For individuals holding bitcoin for investment purposes, gains or losses from a sale of bitcoin, or virtual currency, is reported on IRS Form 1040 Schedule D and IRS Form 8949 (Sales and Other Dispositions of Capital Assets). Individuals with realized gains on bitcoin held for one year or less are taxed with ordinary tax rates, while those that hold for over one year are subjected to capital gains tax rates.
It’s important to have IRS Form 8949 in mind when keeping track of transactions because the IRS requires detailed information for each transaction. This includes a description of the amount and type of cryptocurrency, when it was acquired and sold, the amount of proceeds from the sale, the cost or basis when acquired, and the amount of the gain or loss. Due to the IRS prohibiting the use of like-kind exchanges covered by Section 1031(a) for cryptocurrency transactions, taxable gains or losses must be recognized at the time that any cryptocurrency is converted into another cryptocurrency — a signal that no one should ever trade their bitcoin.
For those who think the anonymity of Bitcoin provides enough cover while moving one’s bitcoins off an exchange, keep in mind that there is already less privacy than one would think. Independent contractors, gig workers or basically anyone who receives a bitcoin payment for goods or services over $600 in the course of trade or business is already subject to informational reporting to the IRS. Moreover, laws such as the Foreign Account Tax Compliance Act (FATCA), require most foreign bank and non-bank institutions to report information regarding U.S. residents who maintain accounts in those institutions. Going forward, bank accounts with bitcoin transactions may attract more attention as bitcoin goes mainstream.
The general trend is toward more regulation and scrutiny of bitcoin transactions to identify tax liability issues. Just in April 2021, a federal court judge authorized the IRS to use subpoenas to obtain information on those with over $20,000 in transactions on two bitcoin exchanges.
Just as eBay and PayPal have been required for several years to report and provide a 1099k for 200 transactions and more than $20,000 in gross sales in a calendar year, it’s reasonable to expect exchanges to eventually follow similar reporting guidelines in the future, as federal law evolves over time. In fact, it may become the norm to report $600 or more.
All in all, it’s important to be as careful and accurate as possible with bitcoin taxation. While most bitcoin HODLers will not have any tax reporting concerns as long as nothing is done to trigger a loss or gain, those engaging in taxable events, such as those juicy arbitrage plays, will be subject to taxes. Most trades count as short-term capital gains that are taxed up to 37%, depending on the tax bracket. However, the best benefit of holding bitcoin for over a year is to avoid short-term tax rates in favor of long term capital gains rates. Those long-term rates are usually between 15 to 25%, which are much lower.
Fortunately, most exchanges provide ways to download transactions so accounting is less of a headache. As always, consult with tax professionals regarding your obligations and track those filing deadlines. Hopefully as bitcoin continues to rocket to the moon, the pain of paying taxes on any bitcoin income will feel less painful.
This is a guest post by S.J. Ware. Opinions expressed are entirely her own and do not necessarily reflect those of BTC, Inc. or Bitcoin Magazine.
Everything You Need To Know About Bitcoin And Taxes
What are the basics that everyone should know about how their bitcoin is taxed in the United States?
- Is the purchase of bitcoin taxable?
- Do you pay taxes on the sale of bitcoin?
- What transactions require me to report my Bitcoin?
These are questions nearly every Bitcoiner has asked themselves at some point in their Bitcoin journey. The topic of taxes and bitcoin can seem daunting at first but, once you have a solid understanding of the tax implications you may have around your bitcoin, you can make better decisions to lessen the burden of the good ol’ government. I have been working under one of the top Bitcoin tax experts in the country over the past year and have learned everything there is to know about Bitcoin and taxes. I can attest, knowing the regulations and laws around taxes on your Bitcoin can help make a big difference in how you utilize it.
Is There A Bitcoin Tax?
There is not actually anything called a “bitcoin tax” per se. When people refer to taxes and bitcoin they are referring to the capital gains taxes one must pay on profits made from selling or trading bitcoin. This is because, under the current view of the IRS (seen in IRS notice 2014-21), bitcoin is considered property. Per notice 2014-21 the IRS states “for federal tax purposes, virtual currency is treated as property. General tax principles applicable to property transactions apply to transactions using virtual currency.” This really means the capital gains tax on Bitcoin is no different than the one referred to from profiting off a stock.
Capital gains have different rates you pay based on your income level as well as the holding period for the bitcoin.
Capital Gains Taxes: Short Term vs. Long Term
Capital gains taxes are split up into two groups, short term and long term, depending on how long you’ve held the asset.
- Short-term capital gains tax is applied to profits from selling an asset you’ve held for less than a year. Short-term capital gains taxes are pegged to where your income places you in federal tax brackets, so you’ll pay them at the same rate you’d pay your ordinary income taxes.
- Long-term capital gains tax is applied to assets held for more than a year. The long-term capital gains tax rates are 0%, 15% and 20%, depending on your income. These rates are typically much lower than the ordinary income tax rate, which is why HODLing is always going to be the most tax efficient strategy.
The pictures below represent the current long- and short-term capital gains tax rates in the United States.
Internal Revenue Service
Internal Revenue Service
Keep in mind, there are also varying state tax rates that get applied to capital gains. These can range anywhere from 3%–10%.
Capital Losses
If you sell bitcoin at a loss, meaning if the price you sold at is lower than your purchase price, you are entitled to a tax loss deduction, lowering your overall tax bill. You can deduct up to $3,000 per year from capital losses or use it to offset a portion of your capital gains. Any capital loss that exceeds $3,000 will roll forward to following years and can help offset future gains.
For example, If you lost $6,000 in 2020, you would deduct $3,000 from your 2020 income, reducing your tax bill and be able to deduct another $3,000 in 2021, or if you had gains in 2021 you could reduce your gains by that $3,000.
What transactions are taxable?
Understanding what transactions are taxable is very important for planning ahead and making smart decisions about how to best utilize your bitcoin. Let’s break down what is and is not a taxable event.
- Taxable: Anytime you trade, spend or sell your bitcoin, you are triggering a taxable event which must be reported to the IRS. You are also required to report any bitcoin mining as taxable income.
- Non-Taxable: HODLing, purchases of bitcoin with fiat, sending bitcoin from one wallet or exchange to another, using bitcoin as collateral are all non-taxable events.
What is the best tax method?
I recommend using FIFO (first-in first-out) to most of if not all the clients I work with. This essentially means that the first coins you purchased will be the cost basis and holding period for the coins you decide to sell, spend or trade. FIFO is always favorable for Bitcoiners because it allows you to qualify for long-term capital gains rates easier.
How are capital gains tracked for bitcoin?
Tracking capital gains and losses can be quite tricky depending on how much activity you have had with your bitcoin. Moving and storing bitcoin on different wallets and exchanges can lead to quite the headache when trying to figure out the cost basis and holding period for the coins you decide to trade, spend or sell. Luckily, there is software out there like Cointracking.info (my personal favorite) that allows you to easily import your data and does the calculations for you. Once you have calculated your gains/losses either via a software or by doing it yourself, you then report the numbers on form 8949. These figures flow through to schedule D on form 1040.
My suggestions:
My biggest suggestion to any client is to keep track of everything in a notebook and try to use only a few fiat on-ramps and a few secure hardware or multisig wallets. This will make the whole process of calculating your gains/losses much easier. I also recommend not selling your bitcoin until it becomes the unit of account, however, I understand everyone has expenses and reasons to sell along the way. A good way to work around this is by putting your bitcoin up as collateral with a company like Unchained Capital. Just as long as you aren’t selling your bitcoin to buy an Aston Martin.
Hopefully, this article has given you a better idea of how taxes might affect you, so you can make better decisions and minimize your payments to the greedy government. If you need help navigating your bitcoin taxes or just want to ask questions, feel free to shoot me a Twitter DM (located on author profile page) anytime.
This is a guest post by Joe Howe. Opinions expressed are entirely their own and do not necessarily reflect those of BTC, Inc. or Bitcoin Magazine.
How To Offset Gains Taxes With Bitcoin Donations
This tax season, it may be worthwhile to consider making a bitcoin donation to reduce one’s taxes through philanthropy.
This year is on track to be a record year for bitcoin donations as more donors continue to learn about the tax benefits of donating bitcoin instead of fiat. Why do so many high-networth individuals make large gifts of equities or bitcoin instead of donating in fiat? It’s usually all about taxes. If you donate bitcoin, which is considered property by the IRS for tax purposes, then donating appreciated bitcoin is likely one of the most tax efficient ways to support your favorite bitcoin-friendly charity. Why? Think about it like donating pre-tax dollars. When you donate bitcoin directly to a 501c3 nonprofit, you (the donor) do not owe capital gains taxes and can write off the fair market value of the donation. If you were to sell your bitcoin and then donate afterward, you’d be paying 30% or more in taxes first and then donating less as a result. Plus your write-off would be lower as well since the donation is smaller. Since the nonprofits are a 501c3, they also don’t have any tax liability on the gifts and are better off as well.
For those of you who want to take it one step further, there is also a tax arbitrage opportunity since there is no wash rule related to crypto donations. This only helps you if you’re already donating fiat but have appreciated bitcoin you’re HODLing. You might need to read this next paragraph more than once because this is a little more complex.
So, say you’re already donating $10,000 per year to your favorite charity using your credit card. If you replace that $10,000 donation with an equivalent bitcoin donation, and use the fiat to purchase back your bitcoin position, you’ve now erased your capital gains on the previous positions and raised your cost-basis. So by making that same gift in bitcoin each year and then repurchasing that same amount using the fiat you would have donated, you’re much better off.
Unfortunately, most Bitcoiners don’t know about the tax benefits of donating appreciated bitcoin, but if you ask your financial advisor or accountant, they’ll likely tell you to donate your most highly appreciated assets (like bitcoin) first. Until recently, stock donations weren’t easy so this was usually a strategy reserved for the mega wealthy. With bitcoin being easier to transfer and hundreds of nonprofits accepting bitcoin donations directly, it’s becoming more common for the average person to support their cause in a more tax efficient way by donating bitcoin.
To help raise awareness and promote bitcoin donations, The Giving Block has launched a Tax Season campaign that aims to educate users on the tax benefits of donating appreciated bitcoin. Although I’m biased toward making a donation, there are a handful of ways to reduce your bitcoin taxes beyond making a donation. Other methods include
- Using tax software to automate tracking your transactions
- Working with tax professionals who do the heavy lifting for you
- Moving to a city like Miami that is in a state that doesn’t have personal income taxes (plus they have a bitcoin-friendly mayor!)
So whether you’re moving to Miami to get a tan and save on taxes or donating bitcoin to a charity, we hope you take the time to plan ahead or consult a tax professional to optimize your HODL plan so you can stack as many sats as possible.
This article does is not tax advice nor financial advice – all parties should do their own research when making any financial decisions.
This is a guest post by Alex Wilson. Opinions expressed are entirely their own and do not necessarily reflect those of BTC, Inc. or Bitcoin Magazine.