With the rise of cryptocurrencies, it's becoming increasingly important for individuals and businesses to understand the tax implications of their crypto transactions. While cryptocurrencies are still a relatively new asset class, it's essential to know that they are considered taxable income and that you have to pay taxes for any digital asset you own.
In this article, we'll learn how much tax you have to pay for your virtual currency and how crypto taxes work. We'll learn concepts like:
- capital gains tax
- long-term capital gains
- short-term capital gains
- cost basis
We know this is not the most thrilling part of crypto investing, but if you're into crypto trading and you won several coins in your portfolio, like play-to-earn crypto game tokens or stablecoins, then it's imperative to know about crypto taxes.
What are cryptocurrency taxes?
Crypto taxes are the taxes that crypto investors and businesses must pay on their digital assets, crypto gains, and any cryptocurrency transactions. This includes income from buying and selling cryptocurrencies, as well as from mining and staking.
In general, cryptocurrencies are treated as property for tax purposes, which means they are subject to capital gains taxes. You'll owe taxes and be required to pay taxes on that gain if you sell or trade a cryptocurrency for a profit.
However, the specifics of crypto taxes can vary depending on the country and jurisdiction in which you reside. In some cases, cryptocurrency may be treated as a currency for tax purposes, while in others, it may be treated as a commodity.
How much is crypto taxed in the United States?
If you own crypto, you'll have to pay up to 37% tax on short-term capital gains and crypto income and between 0% to 20% tax on long-term capital gains.
The amount of tax you'll pay on crypto in the USA depends on how much you earn, the specific crypto transactions, and how long you've held the capital assets.
How to determine if you owe cryptocurrency taxes
Cryptocurrency is regarded as a digital asset in the United States, and the IRS views it similarly to stocks, bonds, and other assets with financial interest. Similar to these assets, depending on how you acquired your cryptocurrency and how long you kept onto it, the money you make from it has various tax rates, such as capital gains or income.
It's crucial to consider how you used your crypto to determine whether you owe taxes. Taxable events are transactions that generate taxes. Non-taxable events are those that don't.
You're probably wondering, "Is any crypto tax-free?" The good news is that you don't have to pay tax on all the transactions you do with your digital assets.
Buying crypto and hodling
This is not a taxable event. Owning crypto does not have tax consequences on its own. Spending crypto is a whole other story. You will owe crypto taxes once you sell the virtual assets and realize capital gain or loss.
Crypto donations are tax-deductible, especially if you give crypto directly to a 501(c)(3) charitable organization, like GiveCrypto.org. You can get a tax deduction when you give tokens to charities, as crypto donations come with multiple tax benefits.
Our crypto charity article covered how crypto donations don't incur a capital gains tax more in-depth.
Receiving crypto as a gift
Paying taxes on gifts is not a thing. If you receive crypto for your birthday ( yes, please!), you are not obliged to pay any income taxes, at least not until you either sell the tokens or participate in another taxable activity like staking. The same applies to giving crypto as a gift, but there are some limits. You can offer up to $15,000 per recipient per year without paying taxes (and higher amounts to spouses). Anything over that amount requires you to file a gift tax return.
You're not obligated to pay taxes if you own several crypto wallets and transfer funds between them. Generally speaking, unless you are crypto mining or selling crypto, you shouldn't worry about any tax liability.
Taxable capital gains
Now let's see when we owe taxes on capital gain. The following crypto trade transactions are considered taxable events:
Crypto trades: exchanging one crypto for another
Suppose you want to sell crypto for a different one. Converting Bitcoin to ETH, for example, is considered a sale, and the IRS considers it taxable. Also, if you sell your crypto assets with more than what you paid for it, you will owe taxes.
Selling crypto for cash
If you sell your assets for more than you bought them, taxes will be due. When you file crypto taxes, you might be able to deduct capital losses if you sell at a loss.
Spending crypto on goods and services
From the IRS's point of view, spending cryptocurrency or selling it doesn't have different tax implications. Before an asset can be traded for a good or service, it must be sold. As you know, selling crypto makes it subject to capital gains taxes. Simply put, even if you want to buy a slice of pizza or a can of soda with crypto, you'll likely owe taxes on those crypto transactions.
Last but not least, let's see what crypto transactions will make you incur income tax. The following are considered crypto income tax events, and you will have to pay ordinary income tax rates:
Getting your salary in crypto
If your employer pays you in crypto, you should know that the tokens you receive will be taxed as compensation according to your income tax bracket.
Getting crypto in exchange for goods or services
Suppose you accept crypto as a payment for a good or service you provide to others. Tax reporting is your responsibility when you obtain income this way.
The people who mine crypto owe taxes on their earnings based on the fair market value (the price) of the mined coins at the time they were received. If you mine crypto as a business, those tokens will be taxed as self-employment income. The Self Employment Tax covers medical care and social security contributions.
Gaining staking rewards
Staking rewards are taxed according to their fair market value on the day you received them, just like mining revenues are.
Holding certain cryptocurrencies, like USD Coin, may bring you a profit. This qualifies as a taxable event. The IRS does not treat this like interest you might receive from a bank, despite the fact that it is commonly referred to as interest.
Earning crypto from a hard fork
Taxes on cryptocurrency acquired during a hard fork vary depending on how you use the crypto assets, when you can withdraw them from the crypto exchanges, and other factors. You should always check out the most recent IRS guidance on hard forks to be up to date with the specifics.
Getting crypto from an airdrop
Another way you could get coins is through an airdrop that a crypto project organizes as part of a marketing campaign or giveaway. Any amount of crypto you get from an airdrop must be reported to the IRS.
Receiving crypto rewards
You might get free crypto in the form of learning rewards or small incentives for referring a friend to a crypto exchange. When you file crypto taxes, remember to include these as well.
How to calculate your crypto taxes
By analyzing your ordinary income, gains, and losses, you may get an idea of how much tax you will owe. Let's explore further:
Calculate the crypto income
The U.S. taxpayers know that their federal and state income gets taxed. Nothing new here. If you receive crypto as income from mining, staking, or rewards, those coins also incur taxes.
You'll typically owe what your tax bracket-appropriate income tax rate is when you submit your earnings. If you've made a lot of money from crypto activity, it may impact your tax bracket, and you may end up paying a higher tax rate on some of your earnings.
You can use a crypto tax calculator to understand how much income taxes you will owe from capital gains or losses from crypto transactions. Crypto tax software will help you navigate easier when you have to fill out your tax forms.
Calculate capital gains and losses
Before calculating your capital gain or loss, you must know how much crypto you had to begin with. This is called your cost basis. You may determine if you have a capital gain or loss when you sell your cryptocurrency by deducting your basis from the sale price. A capital gain has been realized if the proceeds are higher than the cost basis. You will suffer a capital loss if not.
Even though capital gains are taxed at a lower rate than ordinary income, it is nevertheless preferable to offset those profits with losses because doing so might result in a reduction or even a cancellation of the tax you must pay.
Know the cost basis
Any time you buy crypto, you can determine your cost basis, depending on how much you paid. If you got cryptocurrency through mining or staking, however, your cost basis is determined by the market value at the time you received it.
Your cost basis for crypto received as a gift depends on the market value and the basis of the person giving you the gift.
Short-term vs. long-term capital gains
IRS fees on capital gains can be long-term or short-term, and the amount of tax you will owe depends on how long you hold your cryptocurrency. If you hang onto your cryptocurrency for more than a year before selling, you'll typically pay a lower rate than if you sold it immediately.
Long-term gains are taxed at a reduced rate, while short-term gains on tokens held less than a year have the same tax rates as all other income. Based on your income, the tax rate for long-term capital gain varies between 0%, 15%, or 20% at the federal level.
As we previously stated, you can use cryptocurrency tax software or hire a tax attorney to help you with your tax returns.
Understand your capital losses
It is considered a capital loss when you sell an asset for less than you paid for it. Losses are not all bad, though, as you can use them to offset other gains, potentially reducing your overall tax bill.
The maximum amount of losses you may declare each year to offset other income is $3,000, regardless of whether you have more losses than profits or none at all. Any leftover continues over to succeeding years until the entire loss amount is applied.
Tax on lost or stolen crypto
You should know that the IRS doesn't allow crypto investors to claim stolen or lost crypto as a capital loss.
If you lose your crypto due to a hack, a scam, or because you've lost your private keys, that's bad luck. You won't be able to ask for any tax deductions, as the Tax Cuts and Jobs Act legislation does not allow it. The only thing left to do is write off those coins entirely when you calculate your crypto taxes.
We've reached the end of our ultimate crypto tax guide, and you're all set to pay your dues accordingly to any taxable event you trigger while trading or investing in crypto.
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