Cryptocurrencies are digital assets that can be used as a medium of exchange, store of value, or investment. They are powered by blockchain technology, which is a decentralized ledger that records and verifies transactions without the need for intermediaries.
Cryptocurrencies have become increasingly popular in recent years, with more than 108 million crypto wallet holders globally and around 2,300 US businesses accepting bitcoin as of 2020. However, many crypto users are still confused about how to report their crypto activity on their taxes.
In this article, we will explain the basic tax principles that apply to cryptocurrencies in the United States and provide a 5-step guide on how to report crypto on your taxes.
How are cryptocurrencies taxed in the US?
The Internal Revenue Service (IRS) treats cryptocurrencies as property for tax purposes, which means that you pay taxes on cryptocurrency if you sell or use your crypto in a transaction. This is because you trigger capital gains or losses if its market value has changed since you acquired it.
For example, if you bought one bitcoin for $10,000 in January 2020 and sold it for $30,000 in December 2020, you have a capital gain of $20,000 that you need to report on your taxes. On the other hand, if you bought one bitcoin for $30,000 in January 2020 and sold it for $10,000 in December 2020, you have a capital loss of $20,000 that you can use to offset your other capital gains or income.
The amount of tax you pay on your capital gains or losses depends on how long you held the crypto before selling or using it. If you hold it for more than one year, it is considered a long-term capital gain or loss and taxed at preferential rates ranging from 0% to 20%. If you held it for less than one year, it is considered a short-term capital gain or loss and taxed at your ordinary income tax rates.
In addition to capital gains or losses, you may also have ordinary income from cryptocurrencies if you receive them as payment for goods or services, as a result of mining or staking activities, as a result of a hard fork or an airdrop, or as any other type of income. Ordinary income is taxed at your marginal tax rate and subject to self-employment taxes if applicable.
How to report crypto on your taxes: 5-step guide
Reporting crypto on your taxes may seem complicated, but it can be simplified into five steps:
- Calculate your crypto gains and losses To calculate your crypto gains and losses, you need to keep track of your cost basis and fair market value for each crypto transaction. Your cost basis is the amount you paid to acquire the crypto, including fees and commissions. Your fair market value is the amount you received when you sold or used the crypto, or the market price of the crypto at the time of the transaction.
You can use various methods to calculate your cost basis, such as first-in first-out (FIFO), last-in first-out (LIFO), or specific identification. However, once you choose a method, you must stick to it consistently and apply it to all your crypto transactions.
You can use online tools such as TokenTax to help you calculate your crypto gains and losses automatically based on your transaction history from various exchanges and wallets.
- Fill out crypto tax Form 8949 The IRS Form 8949 is the tax form used to report cryptocurrency capital gains and losses. You must use Form 8949 to report each crypto sale that occurred during the tax year.
If you had other (non-crypto) investments during the tax year, you must report them on separate Forms 8949 when you file your taxes.
On Form 8949, you need to provide the following information for each crypto transaction:
- Description of property (e.g., BTC)
- Date acquired
- Date sold or exchanged
- Proceeds (fair market value)
- Cost basis
- Adjustment code (if any)
- Adjustment amount (if any)
- Gain or loss
You also need to indicate whether the transaction was short-term or long-term by checking the appropriate box at the top of the form.
- Report the totals from your crypto 8949 on Form Schedule D Form Schedule D is the summary of your capital gains and losses from various sources, including cryptocurrencies. You need to report the totals from your crypto 8949 on Form Schedule D, line 1 for short-term transactions and line 8 for long-term transactions.
You also need to report any capital loss carryovers from previous years on Form Schedule D, line 6 for short-term transactions and line 14 for long-term transactions.
Form Schedule D will help you calculate your net capital gain or loss for the tax year, which will affect your tax liability or refund.
- Report any ordinary crypto taxable income on the 1040 Schedule 1, unless your earnings are from self-employment. In this case, use Schedule C If you received any ordinary income from cryptocurrencies during the tax year, you need to report it on Form 1040 Schedule 1, line 8 for other income. This includes income from mining, staking, hard forks, airdrops, or any other type of income.
However, if your crypto income is from self-employment, such as running a mining operation or providing crypto-related services, you need to report it on Form 1040 Schedule C, line 1 for gross income. You can also deduct any business expenses related to your crypto activity on Form 1040 Schedule C, line 28 for other expenses.
You may also need to pay self-employment taxes on your crypto income if it exceeds $400 for the tax year. You can use Form 1040 Schedule SE to calculate your self-employment tax liability.
- Complete the rest of your tax return, then file and pay your taxes After reporting your crypto activity on the appropriate forms, you need to complete the rest of your tax return by following the instructions and filling out any other forms that apply to your situation.
You can file your tax return electronically or by mail, depending on your preference and eligibility. You can also use online services such as TokenTax to help you file your taxes with ease and accuracy.
You must pay any taxes that you owe by the due date of your tax return, which is usually April 15th of the following year. You can pay your taxes online, by phone, by mail, or in person, depending on the payment method that suits you best.
If you cannot pay your taxes in full by the due date, you may be able to request a payment plan or an offer in compromise from the IRS to reduce or delay your tax debt.
Cryptocurrencies are an exciting and innovative form of digital assets that offer many benefits and opportunities for users. However, they also come with tax implications that need to be understood and reported correctly.
By following the five steps outlined in this article, you can report crypto on your taxes with confidence and compliance. However, if you have any doubts or questions about your specific situation, you should always consult a qualified tax professional before filing your taxes.