- Is Bitcoin Buying Taxable?
- Do you pay taxes on Bitcoin sales?
- For which transactions do I have to report my Bitcoin?
These are questions that almost every Bitcoiner has asked themselves at some point on their Bitcoin journey. Taxes and Bitcoin can seem daunting at first, but once you have a solid understanding of the tax implications of your Bitcoin, you can make better decisions to ease the burden on good old government. I worked under one of the best bitcoin tax experts in the country for the past year and learned all about bitcoin and taxes. I can attest that knowing the rules and laws regarding taxes on your Bitcoin can make a huge difference in how you use it.
Is there a bitcoin tax?
There is actually nothing called a “bitcoin tax” per se. When people refer to taxes and bitcoin, they are referring to the capital gains taxes that are paid on profits made from selling or trading bitcoin. This is because, according to the current view of the IRS (see IRS Communication 2014-21), Bitcoin is considered property. The 2014-21 IRS Notice stated, “For federal tax purposes, virtual currency will be treated as property. For transactions with virtual currency, the general tax principles for real estate transactions apply. “This really means that the capital gains tax on Bitcoin is no different from what is referred to when profiting from a stock.
Capital gains have different rates that you pay for the Bitcoin depending on your income level and the holding period.
Capital gains taxes: short term vs. long term
Capital gains taxes are split into two groups, short term and long term, based on how long you have held the asset.
- Short term capital gains Taxes are levied on profits from the sale of an asset that you have held for less than a year. Short-term capital gains taxes are tied to where you are classified in the federal tax brackets based on your income. So you pay them at what you would pay your normal income taxes at.
- Long-term capital gains Taxes are levied on assets held for more than a year. The tax rates for long-term capital gains are 0%, 15% and 20% depending on income. These rates are usually much lower than the normal income tax rate, which is why HODLing will always be the most tax efficient strategy.
The following images show the current tax rates for long-term and short-term investment income in the United States.
Note that there are also different state tax rates that apply to capital gains. These can be between 3% and 10%.
If you sell Bitcoin at a loss, that is, if the price at which you sold is lower than your purchase price, you are entitled to a tax loss deduction which will lower your overall tax burden. You can deduct up to $ 3,000 per year from capital losses or offset a portion of your capital gains. Any capital loss in excess of $ 3,000 will carry over to subsequent years and may help offset future profits.
For example, if you lost $ 6,000 in 2020, you would be able to deduct $ 3,000 from your 2020 income, lower your tax burden, and deduct another $ 3,000 in 2021. If you had made profits in 2021, you could cut your profits by that $ 3,000.
Which transactions are taxable?
Understanding which transactions are taxable is very important in order to plan ahead and make wise decisions about how to best use your Bitcoin. Let’s summarize what is and what is not a chargeable event.
- Taxable: Every time you trade, spend, or sell Bitcoin, you trigger a taxable event that must be reported to the IRS. You must also report any Bitcoin mining as taxable income.
- Not taxable: HODLing, buying bitcoin with fiat, sending bitcoin from one wallet, or exchanging it for another, using bitcoin as collateral, are all non-taxable events.
What is the best tax method?
I recommend using FIFO (first-in-first-out) for most, if not all, of the customers I work with. This essentially means that the first coins you bought will be the cost base and holding period for the coins that you want to sell, spend or trade. FIFO is always cheap for bitcoiners as it makes it easier for you to qualify for long term capital recovery rates.
How are capital gains recorded for Bitcoin?
Tracking capital gains and losses can be very difficult depending on how much activity you’ve had with your bitcoin. Moving and storing Bitcoin in different wallets and exchanges can create a significant headache when trying to determine the cost base and holding period for the coins you want to trade, spend, or sell. Fortunately, there is software like Cointracking.info (my personal favorite) that allows you to easily import your data and do the calculations for you. Once you have calculated your winnings / losses, either using software or yourself, report the numbers on Form 8949. These numbers go into Schedule D on Form 1040.
My biggest suggestion to any customer is to keep an eye on everything in a notebook and try to only use a couple of Fiat ramps and a couple of secure hardware or multisig wallets. This makes calculating your winnings / losses a lot easier. I also recommend not selling your bitcoin until it becomes the unit of account. However, I understand that everyone has a cost and reason to sell along the way. A great way to get around this is to put your Bitcoin on deposit as collateral for a company like Unchained Capital. Just as long as you don’t sell your bitcoin to buy an Aston Martin.
Hopefully this article has given you a better idea of how taxes could affect you so that you can make better decisions and minimize your payments to the greedy government. If you need help navigating your bitcoin taxes or just want to ask questions, feel free to send me a Twitter DM (on the author profile page) at any time.
This is a guest post by Joe Howe. The opinions expressed are solely their own and do not necessarily reflect those of BTC, Inc. or Bitcoin Magazine.