10 Frequently Asked Questions About Crypto Taxes in the US

Crypto Taxes in the US - Crypto Tax - Taxscan

How do crypto taxes work?

The cryptocurrency market was off the leash until recently, Bitcoin value spiked again. Now IRS asked the question about cryptocurrency holdings in the 1040 Federal Income tax form of 2020.

Under 2014 guidelines, IRS already mentions all virtual currencies to be treated as property or capital assets under US tax law. It means, cryptocurrency was taxable for a long time. But the problem is, millions of people weren’t reporting it, intentionally or not. So now, there is a question in the form that you have to answer it carefully whether you have bought, sold, exchanged crypto coins for goods or services in 2020. And you can’t skip this question.

The tax amount will depend on several factors.

  • The duration of holding a particular cryptocurrency – Short term and long-term gains.
  • Its increment or decrement in value from the time of purchase.
  • The difference value is traded for other forms of virtual currency.
  • The profit or loss from products purchased with cryptocurrencies like Real Estate or cars.

Is it business income or capital gain?

The IRS considers cryptocurrency to be a capital asset. Hence, any gain or loss incurred while a transaction with cryptocurrency is either a short-term capital gain or long-term capital gain.

The tax rates are different for each case.

  • If you bought bitcoins and sold them within a year after their value increased, the profit earned will be your short-term capital gain (STCG). Your tax rate on the capital gain will be the same as the tax on business income like salaries, wages, commissions, etc. In 2021, the ordinary income tax bracket varies from 10% to 37%.
  • Long-term capital gain is achieved if you buy bitcoins, hold them for a time until their value rises, and then sell them after a year. Your tax rate on the gain will be the same as the one you will pay for real estate or other non-liquid assets. Long-term capital gains are currently taxed at three different rates: 0%, 15%, and 20%. Your income determines your tax rate.

How does the IRS audit crypto investors?

IRS is proactively investing to identify the taxpayers attempting to avoid tax liabilities by not reporting all the money transactions. Through the Open Hidden Treasure operation, IRS is employing external experts in virtual currency in collaboration with Fraud Enforcement Office.

Audits are mostly conducted on people with suspicious hidden crypto transaction tendencies. But this is not always the case. Sometimes taxpayers are randomly selected for inspection.

Should you pay taxes on crypto mining?

Yes, you need to pay tax based on the cryptocurrency’s fair market value at the time of mining. You can deduct the charges for data and tools used for mining.

Also, you are liable to pay tax for cryptocurrency when you are trading it or holding it because an exchange happened between you and the seller.

Again, if you are purchasing goods and services with the mined cryptocurrency, it becomes taxable.

For all cases, the income tax rate would apply.

Do you have to pay taxes when you trade one crypto for another?

Converting from one cryptocurrency to another on crypto exchanges such as Redot is subject to capital gain tax as you are trading one property to gain another. IRS wants to know if you have received, sold, exchanged, or acquired such assets, which means you will be taxed for all these events.

Are crypto donations taxable?

Gifts are non-taxable under the U.S tax law for both the sender and receiver. However, if the recipient sells the gift in the future, they will have to pay tax on capital gains.

Likewise, donations are given through any form of cryptocurrency to non-profit charity are exempted from tax.

In the U.S, if the crypto asset value goes above $15000, the donor has to file a gift tax return.

How to calculate taxes in the case of a hard fork?

A cryptocurrency hard fork happens when the blockchain splits, implying a change in protocols. As a result, holders may receive new coins as it happens in airdrops.

IRS stated in the 2019 judgment that hard forks do not lead to gross incomes if the wallet holder does not get virtual currency units.

Because of high price volatility in forked digital assets, their fair market value is unpredictable. Some exchanges don’t support trading forked assets. If you do not have control over or access to these assets for trading purposes, they are not considered as your income. Hence are not taxable.

Can you reduce or eliminate crypto taxes?

When you suffer a capital loss or asset loss, the tax is normally written off. If this is not your situation and you are liable to pay, there are a few ways you can minimize your crypto taxes.

  • Turn your short-term capital into long-term by holding your coins for more than a year at least. The tax on long-term gains is much lower than short-term gains.
  • If you had any losses during your trading period, you can deduct them from your taxable gains in cryptocurrency or other value-advanced investments in crypto-assets.
  • Donate your crypto coins to charity or gift them to a family member.

Can you write off cryptocurrency losses on your taxes?

Before 2018, IRS would write off tax under “Casualties and Thefts.” In Form 4684 for crypto that is stolen or lost in a closing exchange.

To be considered a lost asset, it should be either sold or exchanged, on which the tax is imposed.But in recent laws, it has become increasingly impossible to write off crypto tax completely.

This change makes security questions even more important because you will have to pay taxes even if somebody stole your crypto. To prevent this, make sure you develop good cybersecurity habits such as using cold storage, installing a good and reliable antivirus such as Avast or close alternative, using a password manager, VPN and network firewall.

What are tax penalties for mistakes with crypto taxes?

IRS imposes hefty penalties and interests on people who have somehow failed to report about all their cryptogenic or virtual currency transactions. It includes free exchanges or crypto to crypto exchanges. Even small payments made to vendors in return for service needs to be reported. Deliberately or not, if you miss on reporting any transaction, you will be accused of tax evasion. It can cost you up to $25,000 in the U.S.

As part of the investigation, the IRS may look for a history of noncompliance, willfulness, or other evidence to check the level of tax fraud.