Cryptocurrency has been on a wild ride lately, from soaring highs to crushing lows to the recent implosion of FTX, the world’s third largest cryptocurrency exchange. But is there anything that hasn’t changed? If you trade, sell, exchange or redeem cryptocurrency for profit, you will owe tax on it.
This is because, from a tax perspective, the IRS treats cryptocurrency as property, not cash. Similar to stocks, the value of cryptocurrency can increase or decrease over time.
“With cash, if you have a $10 bill at the beginning of the year, barring slight adjustments for inflation or cost of living, it’s still worth $10 at the end of the year,” said certified public accountant Helena Swyter. Owner of Sweeter CPA in Chicago. “But if you bought $10 worth of cryptocurrency, it could be worth more or less than that in a year.”
Once you sell or exchange cryptocurrency, these fluctuations become gains or losses, at which point they can be taxed, and the IRS will want to know on your federal income tax return Form 1040.
New this year is the addition of a special digital assets section on the 1040 form, named broadly enough to include not just cryptocurrency, but also non-tradable tokens. This section asks: “Did you receive (such as an award, gratuity, or payment for property or services) at any time during 2022? or sell, exchange, gift or otherwise dispose of a digital asset (or a financial interest in a digital asset)?
How to track cryptocurrency transactions
Since you have to report your cryptocurrency gains and losses to the IRS, you need a good system to track them. Swyter said first check with the broker or exchange you use to buy or sell cryptocurrency to see if it has tracking capabilities you can use or have access to. If not, use an app, tax reporting software or spreadsheet to track the information yourself, he said.
Here’s what you need to watch:
How many dollars did you spend to buy the cryptocurrency?
The date you bought or received the cryptocurrency
The date you sold or exchanged the cryptocurrency
How much were the coins in dollars on the date you sold them
If you sell cryptocurrency coins for less than what you paid for them, it is a loss. You don’t pay tax on losses. According to the IRS, you can offset losses on cryptocurrency capital gains of up to $3,000. If you have more than this amount of loss, you can carry it forward to future years.
“But if you later sold the cryptocurrency for more than the purchase price, that’s a taxable gain,” Swyter said. “That gain is taxed at short or long-term capital gains rates, depending on how long you’ve held it.”
That’s why it’s important to know the dates you bought and sold your cryptocurrency. Some crypto exchanges will send you a 1099-B or 1099-K form near the end of January. A 1099-B shows your gains or losses from selling cryptocurrency, and a 1099-K shows your income. A 1099-B is more useful for figuring out how much you owe in taxes, but not every exchange sends them. If they do, they can only send to certain people who have made multiple or larger transactions. That’s why it’s a good idea to keep your own records.
How to report cryptocurrency gains and losses
To figure out the loss or gain, look at how much you paid for the cryptocurrency, including fees, and subtract that from the selling price. If the number is negative, it is a loss. If it’s positive, it’s a gain.
If you hold the cryptocurrency for a year or less before selling or exchanging it, it is taxed as a short-term gain or loss that is taxed at the ordinary income tax rate. If you held it for a year or more before selling or exchanging it, it counts as a long-term capital gain or loss.
These are taxed at a more favorable long-term capital gains tax rate based on your tax bracket.
Swyter takes the experience of many people with cryptocurrency through the coins they buy and hold in their brokerage account. However, if you have received other types of income in cryptocurrency, you must also report them.
“If you earned interest from a cryptocurrency bank that had to be converted into USD when you received it, report it as you would from a traditional bank,” Swyter said. The same goes if someone pays you for a service in cryptocurrency, he added.
Once you’ve calculated your gains and losses and determined whether they are short-term or long-term capital gains, you’re ready to fill out the required tax forms.
If you’re reporting both short-term and long-term gains and losses, file Tax Form 8949. Next, you must also complete and file a regular income tax form, Form 1040 (Schedule D). Summarize your transactions from Form 8949. If you’ve done a good job keeping records, you should be done.
Kate Rockwood is a freelance writer and editor.
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