How do crypto taxes work in the US

Understanding the Basics of Cryptocurrency Taxation

In the United States, cryptocurrency is treated as property for tax purposes by the Internal Revenue Service (IRS). This classification means that general tax principles applicable to property transactions also apply to digital assets. Unlike traditional currencies such as the US dollar, cryptocurrencies like Bitcoin and Ethereum are not considered legal tender, which affects how they are taxed.

When individuals or businesses engage in cryptocurrency transactions, they must consider capital gains and losses. Every time a crypto asset is sold, traded, or used to purchase goods or services, it may trigger a taxable event. The IRS requires taxpayers to report these events on their annual tax returns, typically using Form 8949 and Schedule D.

Taxable Events in Crypto Transactions

A taxable event occurs whenever a taxpayer disposes of cryptocurrency. Disposal includes selling crypto for fiat currency, trading one cryptocurrency for another, or using crypto to buy goods or services. Each of these actions can result in a capital gain or loss based on the difference between the cost basis (the original value of the asset) and the fair market value at the time of the transaction.

• Selling Bitcoin for USD
• Trading Ethereum for Litecoin
• Using USDT to purchase merchandise

Each of these examples constitutes a taxable event. It is crucial for taxpayers to maintain accurate records of all transactions, including dates, values in USD at the time of the transaction, and any fees incurred.

Reporting Crypto Taxes: Forms and Documentation

Taxpayers who have engaged in cryptocurrency transactions must answer yes or no to the question about virtual currency on the first page of their Form 1040. Even if an individual only bought cryptocurrency during the year and did not sell or trade, they still need to check the box indicating they had a crypto transaction.

For detailed reporting, Form 8949 is used to list each sale or exchange of cryptocurrency. This form captures:

• Description of the property
• Date acquired
• Date sold
• Sale price
• Cost or other basis

The totals from Form 8949 then flow to Schedule D, where the net capital gain or loss is calculated and reported on the main tax return.

Calculating Gains and Losses

To calculate capital gains or losses from cryptocurrency transactions, taxpayers must determine the cost basis of the asset. The cost basis is generally the amount spent to acquire the cryptocurrency, including any fees or commissions.

When a disposal occurs, the fair market value of the cryptocurrency at the time of the transaction must be determined. This value can be obtained from cryptocurrency exchanges or financial platforms that track historical prices.

• Determine the purchase price and date of the crypto asset
• Record the sale price and date
• Subtract the cost basis from the sale price to find the gain or loss

For example, if someone bought 1 Bitcoin for $30,000 and later sold it for $40,000, they would realize a capital gain of $10,000. This gain is subject to capital gains tax, which depends on the holding period and the taxpayer's income level.

Tax Rates and Holding Periods

Cryptocurrency capital gains are taxed differently depending on how long the asset was held before being sold or exchanged. If the asset was held for more than one year, the gain is considered long-term and is taxed at lower rates ranging from 0% to 20%, depending on the taxpayer’s income.

If the asset was held for one year or less, the gain is classified as short-term and taxed at ordinary income tax rates, which can be significantly higher.

• For short-term gains, use the taxpayer's regular income tax bracket
• For long-term gains, apply the appropriate capital gains rate based on income level

It is essential to keep meticulous records of when each cryptocurrency was acquired and disposed of to accurately report gains or losses.

Frequently Asked Questions

Q: Do I have to pay taxes if I transfer crypto between wallets?A: Transferring cryptocurrency between wallets you own does not constitute a taxable event. No gain or loss is realized unless the crypto is sold, traded, or used to purchase something.

Q: How do I handle lost or stolen cryptocurrency for tax purposes?A: Lost or stolen cryptocurrency may be treated as a capital loss, but documentation is critical. Taxpayers should provide evidence of the loss, such as exchange records or police reports, especially for theft cases.

Q: Are airdrops and hard forks taxable?A: Yes, receiving new cryptocurrency from a hard fork or airdrop is considered taxable income. The fair market value of the new asset at the time of receipt must be included in income.

Q: What happens if I don’t report my crypto transactions?A: Failing to report crypto transactions can lead to penalties, interest, or even criminal charges in extreme cases. The IRS has increased enforcement efforts related to cryptocurrency, including sending letters to taxpayers with potential noncompliance.