Cryptocurrency taxation is the need for the hour. This is so because cryptocurrency has developed into a solid, self-serving financial system in a very short time. On one hand, it has brought in people from different walks of life by being an attractive investment option and promising financial growth. On the other hand, it has also attracted the IRS, leading to clearly charted rules on cryptocurrency taxation. Under the Internal Revenue Code, cryptocurrencies are digital assets treated as “property”. Therefore, tax laws for “property “ transactions also apply to transactions related to digital assets. In other words, the digital assets transaction will give rise to Capital Gains or Losses like your house or other assets like shares jewellery.
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What are digital assets?
Section 6045(g)(3)(D) of the Internal Revenue Code defines the term ‘digital asset’ as a digital representation of value recorded on a cryptographically secured distributed ledger or any similar technology. So, a digital asset for the purpose of tax laws in thein the USA means to include (but are not limited to):
- Convertible virtual currency and cryptocurrency
- Non-fungible tokens (NFTs)
Digital assets, or cryptocurrencies, are not fiat currencies because a government’s central bank digitally issues them as a currency. Some digital assets can be converted to real currency or substitute real currency in crypto exchanges. Those cryptocurrencies are often referred to as convertible virtual currency. For example, Bitcoin (BTC) or Ethereum (ETH) can be exchanged for goods or services into real currencies or other digital assets.
Crypto investments are growing in leaps and bounds, but it might be a little intimidating for a beginner to understand and navigate. Websites like https://cryptocurrencyhelp.com/ and others are designed to provide beginners or crypto investors with resources and tips to help make the leap into crypto easier. So, when confused, make sure to consult their expert crypto guides.
With that said, let’s uncover the intricacies of crypto taxation as of 2023:
Seven Aspects of Cryptocurrency Taxation
So, if the cryptocurrency or the digital asset is treated as Property, how does that affect transactions in digital assets? Treating the digital asset means that a person holding or transacting in digital assets as an investment must comply with the following laws applicable to assets treated as property.
1.The sale or exchange of digital assets held as an investment will give rise to Capital Gains and Losses.
In the US, cryptocurrencies are treated as property. Therefore, if you hold digital assets as an investment, then the sale or exchange of digital assets will be subject to capital gains taxes. The IRS divides cryptocurrency taxation into short-term capital gains and long-term capital gains. If cryptocurrency is held for less than 365 before being sold off, then it is subjected to short-term capital gain taxes, which are between 10-37%. Cryptocurrency held for more than 365 days before being sold, then long-term taxes are applicable (0-20%)
2. Selling cryptocurrencies held as stock-in-trade gives rise to ordinary income.
If you are in the trade or business of dealing in cryptocurrency, selling or exchanging cryptocurrency will give rise to ordinary gain or loss. Remember, capital gains on the sale or exchange of cryptocurrencies arise when you hold it as an investment.
3. Receiving the property is ordinary income as per IRC § 61).
If you receive cryptocurrency as compensation for goods or services, it is treated as ordinary income. This applies whether you’re an individual or a business. The fair market value (FMV) of the cryptocurrency in U.S. dollars as of the date of receipt of the digital asset is the income.
4. Gift of digital assets is liable to Gift Tax as per IRC 2501.
You will be liable to gift tax if you gift cryptocurrency valued more than the annual gift tax exclusion amount ($17,000 as of 2023).
5. Reporting Foreign Accounts if you hold digital assets.
Valuing more than $10,000 in foreign cryptocurrency exchanges may need to file Form 8938 or FinCen Form 114a Report of Foreign Bank and Financial Accounts (FBAR).
6. Report requirements by business on cash receipts
If a business receives $10,000 or more in cash in a transaction, it must report the transaction to the IRS on Form 8300. This rule has been extended to cryptocurrency transactions, so businesses that accept payments of $10,000 or more in cryptocurrency will also have to report that to the IRS
7. Record keeping Requirements for property as per 26 U.S.C. § 6001).
Like any other type of property (capital asset ), you must keep records of your cryptocurrency transactions to calculate your tax liability accurately.
Cryptocurrency Taxation & Wallets
Trusted and verified Cryptocurrency wallets can be used to do seamless crypto transactions. They work similarly to bank passbooks, keeping records of every transaction, making record keeping and tax filing a much easier job. Crypto wallets are broadly classified into hot wallets and cold wallets.
Hot wallets are online wallets that are incredibly user-friendly. They allow you to easily buy, sell, and trade cryptocurrency. However, hot wallets can also be a little risky because they pose a security risk. To be safe, set a strong password, and don’t share it with other people.
Regarding taxation, though, hot wallets make things much more manageable. Hot wallets create records for transactions, making tax reporting extremely simple. On the other hand, cold wallets are offline wallets considered safer for long-term holdings than Hot wallets. Cold wallets are generally hardware wallets or paper wallets.
Record keeping and return filing is more of a manual task for cold wallets because transactions aren’t recorded the way they are in hot wallets.
Saving on Taxes When Investing in Cryptocurrency
Cryptocurrency taxes are not low by any means. However, being smart about your investment decisions and planning ahead of time can help reduce your tax burden significantly.
The first and the easiest thing you can do is hold off on your crypto assets. Remember, holding crypto is non-taxable! If you hold your assets for over 365 days, turning them into a long-term property gain before selling them, you will save significantly on taxes.
If you have retirement accounts, consider using these for your cryptocurrency investments. You can avoid taxes on your gains until you withdraw the amount by using an IRA account for your investments.
To minimize your loss while selling your cryptocurrency at a lower rate than you initially purchased it, make sure to mention the details when filing a tax return. You are eligible for returns on the losses you incur while selling cryptocurrency.
To save on crypto taxes, you can hire a professional specialising in crypto or use reputed cryptocurrency tax software. There are several trusted software to choose from, and the best one for you depends on your requirements. Someone with a working knowledge of taxes and cryptocurrency can greatly help if you are still new to crypto and investments.
Staying Up to Date With Cryptocurrency Taxation
Cryptocurrency taxation isn’t set in stone, and for anyone investing in crypto, it is important to stay up-to-date with IRS guidelines. Cryptocurrency is still relatively new, and the guidelines are far from being static.
You must also record each transaction on top of your crypto records. Doing your tax filings and tax return claims without the correct details will be impossible. By just keeping these few things in mind and religiously following IRS guidelines, you can easily make cryptocurrency taxation work in your favour.
While the information on this site - Internal Revenue Code Simplified-is about legal issues, it is not legal advice or legal representation. Because of the rapidly changing nature of the law and our reliance upon outside sources, we make no warranty or guarantee of the accuracy or reliability of information contained herein.