Investing in cryptocurrencies has recently become a very popular venture, but how their implications for taxes stand is a pretty tricky subject for many of its investors. Due to their nature, these cryptocurrencies are viewed by various countries, like America’s IRS, as property and not currencies. For this reason, the selling, buying, or trading will be considered a taxable event and, depending on proper documentation, may further require subsequent reporting. Tax laws vary by jurisdiction, understanding tax laws of your jurisdiction is the first step to avoid penalties and ensure compliance.
Tracking Every Transaction
The most common challenge arising in cryptocurrency taxation revolves around keeping a record of transactions. Whether you trade cryptocurrencies, use them for purchases, or earn rewards through mining or staking, just about everything you do has tax implications. There are available tools to make the tracking automated, such as crypto tax software, to make sure your records are correct. The next time you would do the transaction, for instance, with a Bitcoin ATM, write down this transaction, because perhaps the exchange rate and associate fees might be important for your tax reporting.
Taxation of Capital Gain
In every case, the capital gains tax is levied on the gain you make upon selling your cryptocurrency for more than you bought it.
Depending on the period of time you hold on to before its disposal, your gain can be characterized as either a short-term or long-term gain. Short-term gains are taxed as regular income, whereas long-term gains have enjoyed lower tax rates. Planning your trade can help to minimize your taxes, such as holding onto an asset for more than one year.
Understanding Crypto-to-Crypto Trades
However, most investors would not consider the tax implications of trading one cryptocurrency for another. Consider that in most jurisdictions, including a trade of Bitcoin for Ethereum, there is a taxable event. For example, the IRS does require the value of the asset that you give up must be determined in U.S. dollars as of the date of the trade. If these transactions are never reported, underreporting can result and could even become subject to penalties.
Tax-Loss Harvesting
Tax-loss harvesting is the practice of offsetting capital gains with capital losses. If some cryptocurrency you own is less valuable than what you paid for it, selling that cryptocurrency at a loss will then lower your taxable gains. This is particularly valuable in the cryptocurrency markets, which can sometimes see wild fluctuations in prices within very short periods. Just make sure to follow the “wash sale” rules in your jurisdiction, whereby claiming a loss is not permitted if you buy the same asset back in a short period of time.
Considering Staking and Mining Rewards
Taxes are payable on income arising from staking or mining cryptocurrencies. Typically, such rewards are considered ordinary income for tax purposes.
In this regard, what is necessary is a record of the valuation of a particular cryptocurrency at the time it was received. In addition, any sale or trade of such rewards in the future will create a taxable event in the form of capital gains taxes. Keep yourself updated with changes in tax legislation covering staking and mining to report correctly.
Seek Professional Advice
With regulations on cryptocurrency still in a bit of flux, perhaps the most important thing an investor can do is consult with a tax professional who deals in digital assets. A qualified tax advisor will help you sort through all the minutiae on cryptocurrency taxation and search out any opportunities to save on taxes. They can also help amend prior-year returns when necessary and minimize audit risk or penalties.
While the cryptocurrency market keeps growing, so does the scrutiny from the tax authorities. It is only then that proper planning, exact record-keeping, and professional advice may provide an avenue for reducing the tax implications of one’s investment. Paying attention will let you build a portfolio with peace of mind, knowing your taxes are in order.
