Please note: The following information is for the US tax system. However, Accounting also provides complete crypto tax services for other countries including the UK, Germany, Australia, Switzerland, and Austria, and is fully compliant with the tax agencies in those countries.
For tax implication purposes, crypto staking and mining taxes are considered as income tax. Therefore, if a taxpayer has received rewards as a result of staking cryptocurrency or mined it then the IRS requires it to be treated as regular income with respect to the cryptocurrency's fair market value at the date of receipt.
Unlike crypto sales, proceeds from mining are considered as income rather than capital gains or capital losses. The same is applicable in the case of crypto staking as well.
Crypto tax calculation software applications are ideal for calculating crypto mining and staking taxes. This is mainly because it is essential to be aware of the fair market value of each and every instance where the trader has received staking or mining rewards.
A crypto tax calculation software application can be of help in case one does not have the fair market value for all such instances. These software applications also allow the trader to club all such transactions under 'income' and calculate the appropriate 'income tax' amount that they attract.
It must be noted that once the mined or staked cryptocurrency is sold or traded it will attract capital gains (or loss) tax implications and they need to be reported and filed accordingly. The following example will explain the different tax implications on crypto mining and staking:
Considering this example
Income tax: US $6,000
Capital gains: $6,500-$6000= US $500
The income tax will be calculated depending on the taxpayer's tax bracket and whether the capital gain is long term or short term. In this case, the capital gain was short term. In case there is a loss, it will be deducted from the overall taxable income with the applicable threshold.
To put it in simple words, cryptocurrency margin trading is the process of trading crypto by using funds that are borrowed. Typically, the trading capital is borrowed at high rates of interest from the crypto exchange in order to access increased leverage. While it offers the borrower an opportunity to increase profits if markets improve, it also carries a certain risk of loss in case the market condition deteriorates.
Regular cryptocurrency trading involves buying and selling crypto using own funds whereas, in margin trading, the funds are borrowed. It increases the user's buying potential and they can have much higher access to any future profits. Also, the funds are borrowed against the existing funds in the trading account.
These increased funds give the trader 'Leverage' in terms of increased buying power. Different platforms define different thresholds for leverage that are usually expressed in the ratio of existing trading account funds.
The increased profit potential is the main benefit of the margin trading of cryptocurrency. However, in order to realize such gains, the market must move in line with the user's expectations.
On the other hand, if the market moves in the direction that is opposite of what was predicted, then the losses will also magnify accordingly.
In itself, cryptocurrency margin trading does not attract any tax implications as defined by the IRS. Taxation comes into picture when the trader loses or earns on a particular margin trade. This is because cryptocurrency is understood as 'property' for taxation purposes and only gains/losses are taxable.
Borrowings from the exchange: US $10,000 (total interest or fees = $400)
Increase with respect to the borrowings: US $15,000
The difference upon sale: US $5,000
Understanding how these transactions are carried out is vital for the purpose of complying with tax regulations laid down by the IRS. As per the notice issued by the IRS, virtual currency is treated as property for taxing purposes. This implies that general tax principles applicable to property transactions will apply to cryptocurrency exchanges.
The basis of calculation is a massive challenge faced by crypto traders and their accountants. The investors are not able to generally rely on the Form 1099 for the reconciliation of basic information or support. In the absence of records, the traders have to rely on third parties to compile tax holdings. It is critical for investors to maintain independent tax records to ensure the proper filing of taxes.
Simple cryptocurrency transactions are easy to file tax against, even when trading major coins or large exchanges. Users can choose from various tax filing platforms and employ convenient software applications to file crypto taxes.
However, it is always possible for a trader to become involved in complex situations where possessing an advanced crypto tax knowledge can be beneficial. Simple crypto trading situations can turn complex if the ICO invested in is no longer tradable, or coins are lost in case of a hacked exchange. It is essential for a trader to understand such tricky situations and know how to deal with them.
DeFi stands for Decentralized Finance. Some of the popular DeFi products include lending and borrowing markets, decentralized exchanges, derivatives, payment networks, tokenized physical assets like gold, etc.
In a nutshell, DeFi helps the trader earn interest on the lending of their cryptocurrency or allows them to use their cryptocurrency as collateral for taking out loans. Additionally, there is no middleman as these crypto lending platforms operate on smart contracts. Therefore, the nature of the transaction is more direct and allows anyone holding this currency to initiate a borrowing or lending activity.
DeFi crypto attracts different tax liability and advantages depending on whether the trader is lending or borrowing. This difference is explained below.
For a crypto lender, the tax liability is calculated on the amount of interest earned on a crypto loan. The interest earned is subject to the same rates as income tax depending on the fiat value of the cryptocurrency earned. As an example,
This income of $80 will be taxed at the same rate on income tax as is applicable for the individual's other wages or income.
While Crypto lending attracts tax on the interest earned, crypto borrowing can translate into important tax advantages. If one type of cryptocurrency is used as collateral to borrow another type, then there is no tax realization on that particular cryptocurrency which is set as collateral. Cryptocurrency can be borrowed and even converted into flat and will not be taxed.
Cryptocurrency will only be under tax implications if it is exchanged or sold. In other words, one can pay taxes without attracting additional taxes when selling the cryptocurrency.
Holding onto cryptocurrency can help reduce tax liability from capital gains. This is the underlying premise of the tax-loss harvesting strategy. While this has already been discussed earlier, there are certain risks that the taxpayer must be aware of.
While tax loss harvesting is allowed, it is not without its own share of risks. For instance, as a crypto trader, one must be vigilant to avoid any 'wash sale' possibilities. According to the IRS, a trader cannot claim a loss on the sale of particular security if it is bought back within a 30-day period.
Therefore, it is recommended to wait at least 30 days before venturing into a buyback of cryptocurrency after recognizing a loss on the same.
Gains and losses on any trades are calculated as discussed earlier. Most major exchange platforms allow the users to extract the trade details either in the form of an API link or by downloading a CSV file. An expert accountant can help manage more complex situations, such as:
The abovementioned factors indicate the need to rely on an expert or find an alternative solution to get out of situations where no guidelines have been formulated yet. Various scenarios have been discussed in the subsequent subheadings.
The taxpayer must upload a CSV file or an API connection for every exchange that has been used for trading cryptocurrencies. Every API connection must be synced appropriately with the tax software being used. It is important to review the trade information in the report before finalizing it.
The taxpayer can manually enter ICO purchases if there is no secure API link or CSV file for a particular purchase. It is essential to account for the cryptocurrency being spent on ICO purchase.
The taxpayer can manually enter the particulars in this case. The nature of the transaction would be described as "gift" in this scenario.
If somebody else has purchased crypto for the taxpayer, then they must include the transaction information while evaluating taxes. The taxpayer can enter this information manually.
If the taxpayer has mined crypto or has received it as staking rewards, then it is important to account for this information as well into the tax estimating tool.
In this case, the taxpayer can manually enter the information pertaining to the transaction regardless of the reason behind the loss. Not doing this makes the software system assume that the taxpayer is still holding the coin and it will categorize it as sales in the portfolio. Entering stolen or lost coins while documenting transactions can make a major difference when evaluating taxes.
It is vital to keep track of every transaction and related details. This applies to private keys, addresses, altcoins, and digital art. The taxpayer must record taxable income and all receipts with cryptocurrency just like regular taxes. This will make managing crypto taxes much simpler. Once the taxpayer has detailed records, it would be easier to estimate how much is owed.
The past two years haven't been kind to some of the ICOs as many of them lost their value after hitting exchanges. Many exchanges delisted certain coins that have experienced low liquidity. If the taxpayer invested in tokens from an ICO that no longer exists, then they must have to find a way to either dispose of such coins or estimate the loss and incorporate it in the tax report.
For reconciling crypto taxes accurately, a full history of each transaction performed is required. Expert accountants can help to fill in the gaps and help file taxes accurately.
As crypto is still a nascent industry, holding coins in exchanges can be risky. One can hold all coins in the wallet. This is to avoid losing coins. Losing coins because of an exchange getting hacked can create a gap in crypto transactions. It is important to reconcile this information for tax purposes. This data will account for losses in the taxpayer's transaction history and can be used as ordinary income or to offset capital gains. Many accountants help traders create synthetic trades for filling in the missing details. These are done in a conservative manner and pass IRS scrutiny.
Experienced traders may have relied on bots for executing thousands of trades or may have also margin traded on various platforms. In the case of margin trading, the taxpayer needs to evaluate transactions with more care when estimating taxes.
Accountants can help manage millions of trades easily. They can split trades and process them for ensuring cost basis are pretty accurate. Margin trading poses a massive problem to crypto traders who aren't sure of how to estimate their crypto taxes. Using software for evaluating crypto taxes and relying on an expert can help extract all the missing data from exchanges to create an accurate tax report that doesn't invite any scrutiny from the IRS.
The IRS has outlined that donating cryptocurrency will not attract taxation as imposed on a capital gain or loss. Also, in case of donation of cryptocurrency with a holding period greater than a year, the taxpayer can claim a deduction that is equal to the market value (fair market value) of the asset at the time when it is donated.
In case the asset has been in possession for less than one year, one can still claim deduction benefits. However, they will not be as much as the fair market value of that particular cryptocurrency on the date of the donation.
Crypto gifts can be considered as 'gifts' for taxation purposes if they are given without receiving anything in return or receiving something which is lesser in value than the cryptocurrency gifted. Primarily, if the fair market value of the 'gift' is greater than or equal to the adjusted basis at the time the cryptocurrency is gifted, the recipient will take over the holding period of the asset that has been gifted.
There are several crypto traders who rely on numerous crypto tax tools available on the web. They would certainly face this issue of obtaining different results on various tax platforms even after inputting the same data. This obviously doesn't guarantee peace of mind if the user is trying to get accurate results and to withstand tax audits.
An expert helps get through this as they can submerge in the reason that is leading to different outputs on various crypto tax software platforms. Reverse engineering transactions can help identify where the variances are originating from. There are specific software tools that can reverse engineer transactions.
ACCOINTING.com is a Swiss crypto software company with more than 20,000 users worldwide that allows users to track, manage and report all your crypto transactions from one place.
DISCLAIMER: This document is only to be used as a guidance on how to approach crypto taxes. In no way does this guide replace a tax professional. We strongly advise you to look for financial and legal advice in order to report and file your cryptotaxes. The content of this guide is subject to changes as it was created on the best knowledge available at its time. We advise you to look for further clarifications on each matter by visiting www.irs.gov or by consulting directly with your CPA or tax accountant
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