The IRS treats crypto as a digital asset and taxes it much like stocks, bonds, and other capital assets. However, the taxes you owe will depend on how you used your crypto in the previous year. Yes, it’s a little complicated. Here’s what you need to know.
Cryptocurrency investors began to question what impact the president’s proposal to raise the capital gains tax on the rich would have shortly after it launched. The proposal, which intends to raise the long-term capital gains tax rate from 20 to 39.6% for persons earning at least $1 million in yearly investment income, sparked debate in the cryptocurrency world.
What does this signify for cryptocurrency investors and traders? How can you keep your capital gains taxes to a minimum? Keep reading to find out more!
What is the crypto tax rate?
For federal taxes, the crypto tax rate is the same as the capital gains tax rate. Short-term capital gains are taxed at 10-37%, while long-term capital gains are taxed at 0-20% in 2021. The United States determines crypto-asset profits using two factors: your income and the length of time you owned the coin (holding period).
Your holding period starts shortly after you buy crypto or conduct a cryptocurrency transaction and ends the day you sell, trade, or send that capital asset.
Virtual currency is treated as property and general tax principles applicable to property transactions apply to transactions using virtual currency.
Do you pay capital gains tax on cryptocurrency?
The short answer: yes. Because the IRS considers cryptocurrencies like Bitcoin, Ether, and Dogecoin property, you must pay capital gains tax when you sell, trade, or use them as a means of purchase.
What are the taxes on crypto gains?
To figure out how much crypto profits will cost you, start by calculating your capital gains, then figure out what your tax rate is. Your tax rate is determined by two factors: the length of time you held the asset (also known as your holding period) and your income. Your tax rate is equal to either your income rate or the long-term capital gains tax rate, depending on how long you kept the asset. Let’s look at holding periods and tax rates in more detail.
What is the short-term capital gains tax rate for cryptocurrencies?
If you sold your crypto assets within a year, the gains or profits made are subject to the short-term capital gains tax rate. This rate is simple: your short-term capital gains tax rate is the same as your regular income tax rate, which runs from 10 to 37%. To calculate your taxes on any short-term capital gains, add them to your current income and use the table below to apply the appropriate tax rate.
|Single||Up to $10,275||$10,276 to $41,775||$41,776 to $89,075||$89,076 to $170,050||$170,051 to $215,950||$215,951 to $539,900||Over $539,900|
|Head of household||Up to $14,650||$14,651 to $55,900||$55,901 to $89,050||$89,051 to $170,050||$170,051 to $215,950||$215,951 to $539,900||Over $539,900|
|Married filing jointly||Up to $20,550||$20,551 to $83,550||$83,551 to $178,150||$178,151 to $340,100||$340,101 to $431,900||$431,901 to $647,850||Over $647,850|
|Married filing separately||Up to $10,275||$10,276 to $41,775||$41,776 to $89,075||$89,076 to $170,050||$170,051 to $215,950||$215,951 to $323,925||Over $323,925|
Any income received from cryptocurrency mining, staking, airdrops, or being paid in cryptocurrency is taxed at the usual income rate.
What is the long-term capital gains tax rate for cryptocurrencies?
If you sold your crypto after holding it for more than a year, the gains are taxed separately from your ordinary income at the long-term capital gains rate. Depending on your income and filing status, these are currently taxed at 0, 15, or 20%. Many consider holding crypto assets for more than a year a tax benefit because these rates are lower than the short-term capital gains rate.
|Tax Rate||Unmarried Individuals, Taxable Income Over||Married Individuals Filing Joint Returns, Taxable Income Over||Heads of Households, Taxable Income Over|
What impact would an increase in the capital gains tax have on crypto traders?
President Biden’s proposal to raise the long-term capital gains tax from 20 to 39.6% only affects those with income over $1 million. This includes around 0.3% of households, according to White House advisor Brian Deese. As a result, most crypto traders’ and investors’ long-term tax rates remain unchanged. The incentive to hold on to cryptocurrency for the long term vanishes for individuals who are affected by the almost doubled tax rate.
This isn’t the first time capital gains taxes have increased, considering the Tax Reform Act of 1986 and the American Taxpayer Relief Act of 2012 increased stock sales. However, this pattern suggests that those with large amounts of unrealized profits will sell later due to the lower tax rate on their cryptocurrency earnings. With this proposal, those traders would ultimately pay more in taxes.
While there’s still much ambiguity surrounding the proposal, there are ways to use the terms to offset capital gains. This provides lower taxes on bitcoin gains if rates rise.
How can you use tax-loss harvesting to lower your crypto gains taxes?
When tax season arrives, no one wants to discover they owe money. That’s why astute crypto investors are aware of the tax ramifications of their trades throughout the year. They take advantage of this by employing a practice known as tax-loss harvesting.
Investors use tax-loss harvesting to sell your crypto assets at a loss and offset your capital gains. This will lower your crypto gains taxes. Even if you don’t have any capital gains to offset, tax-loss harvesting as a capital loss deduction from your income could be useful.
What is tax-loss harvesting and how does it work?
Let’s imagine you’ve made a profit on a couple of coins for the year and now have $10,000 in capital gains. You are, however, holding crypto at a $5,000 loss. You have unrealized losses at this stage, and you might use the tax-loss harvesting approach by selling your crypto at a loss. This loss would reduce your tax liability by half by offsetting your capital gains by $5,000.
If the proposed capital gains tax hike becomes law, cryptocurrency traders will rely even more on tax-loss harvesting to reduce their tax liability.
How do I know if I owe crypto taxes?
It’s crucial to look at how you utilized your crypto in 2021 to figure out if you owe taxes. Events that incur taxes are transactions you carry out with your crypto assets that result in a tax. Non-taxable events are those that do not fall within this category. We explain these events further below.
- Purchasing cryptocurrency using cash and storing it. Buying and holding cryptocurrency isn’t taxable in and of itself. When you sell and the gains are “realized,” you incur tax.
- Donating crypto to a tax-exempt charity or non-profit organization. You may be eligible to claim a charitable deduction if you donate crypto to a 501(3) nonprofit organization like GiveCrypto.org.
- Receiving a gift. If you obtain crypto as a present, you won’t have to pay taxes on it until you sell it or engage in another taxable activity, like staking. Giving a gift is considerate! Without paying taxes, you can give up to $15,000 per recipient per year (and higher amounts to spouses). You’ll need to file a gift tax return if your gift totals more than $15,000 per recipient (which does not result in any current tax liability). Even if you didn’t mean it, transferring crypto to someone else outside of purchasing goods or services may count as a gift.
- Transferring cryptocurrency to yourself. Transferring cryptocurrency between your wallets or accounts is tax-free. You can carry over your original cost basis and acquisition date to keep track of your prospective tax impact when you sell.
Taxable Events as Capital Gains
- Selling cryptocurrency for cash. Have you ever sold your cryptocurrency for U.S. dollars? If you sell your assets for more than what you purchased them, you’ll owe taxes. You may be able to deduct a loss from your taxes if you sell at a loss.
- Converting one cryptocurrency to another. If you want to buy Ether with Bitcoin, for example, you’ll need to sell your Bitcoin first. The IRS deems this a taxable transaction because it is a sale. If you sold your Bitcoin for more than you bought it, you’ll owe taxes.
- Buying goods and services with your crypto assets. If you use bitcoin to purchase a pizza, you’ll almost certainly owe taxes on the transaction. Spending cryptocurrency isn’t that different from selling it to the IRS. Before you can swap the asset for a good or service, you must sell it, and selling crypto exposes you to capital gains taxes.
Taxable Events as Income
- Accepting crypto in return for goods or services. If you take crypto in exchange for goods or services, you must report it to the IRS as income.
- Mining cryptocurrency. If you mine cryptocurrency, you’ll almost certainly owe taxes on your profits. You can calculate your profits using the fair market value (typically the price) of the mined coins at the time you received them. The IRS taxes self-employment income on cryptocurrency generated as a company.
- Receiving staking rewards. Staking rewards are taxed in the same way that mining profits are. To calculate staking reward taxes, use the fair market value of your rewards from the day you got them.
- Receiving an airdrop. As part of a marketing campaign or promotion, a crypto corporation may offer you an airdrop. Receiving an airdrop is considered income, and you must disclose it on your taxes.
- Other rewards or incentives. This isn’t an exhaustive list; there is a multitude of reasons why you might get free cryptocurrency. These can include Coinbase Earn prizes or incentives such as receiving $5 in Bitcoin for bringing a friend to a crypto exchange. Regardless, these must be reported as income.
Frequently asked questions about cryptocurrency and capital gains
Cryptocurrency can be a great currency alternative, but remember that taxes will almost always play a role. Just like your income and the payments you make using U.S. currency, crypto income and purchases are taxed at a similar rate. However, you have several options for using your crypto without incurring taxes as well.
Still have questions? Here are the answers the IRS has provided for frequently asked questions about cryptocurrencies and taxes.
How do you calculate if you made a profit or a loss with a cryptocurrency?
Your gain or loss will be the difference between your adjusted basis in the cryptocurrency and the amount you received in exchange for the cryptocurrency , which you should report on your Federal income tax return in U.S. dollars.
How do you determine your basis when it comes to cryptocurrency investments?
Your basis (also known as your “cost basis”) is the amount you spent to acquire the cryptocurrency , including fees, commissions, and other acquisition costs in U.S. dollars. Your adjusted basis is your basis increased by certain expenditures and decreased by certain deductions or credits in U.S. dollars.
If I got paid with cryptocurrency for work done as an independent contractor, is it self-employment income?
Yes. Generally, self-employment income includes all gross income derived by an individual from any trade or business carried on by the individual as other than an employee. Consequently, the fair market value of cryptocurrency received for services performed as an independent contractor, measured in U.S. dollars as of the date of receipt, constitutes self-employment income and is subject to self-employment tax.
How do I calculate my income if got paid for services in cryptocurrency?
The amount of income you must recognize is the fair market value of the cryptocurrency, in U.S. dollars when received. In an on-chain transaction, you receive the cryptocurrency on the date and at the time the transaction is recorded on the distributed ledger.
Do I have to recognize a gain or loss if I choose to pay someone with cryptocurrency?
Do I have to recognize a gain or loss if I exchange cryptocurrency for other property?
Yes. If you exchange cryptocurrency held as a capital asset for other property, including for goods or for another cryptocurrency, you will recognize a capital gain or loss.
One of my cryptocurrencies went through a hard fork followed by an airdrop and I received new cryptocurrency. Do I have to report capital gains?
Yes, if a hard fork is followed by an airdrop and you receive new cryptocurrency, you will have taxable income in the taxable year you receive that cryptocurrency.
Do I have to report income or capital gains if I move cryptocurrency between digital wallets?
No. If you transfer virtual currency from a wallet, address, or account belonging to you, to another wallet, address, or account that also belongs to you, then the transfer is a non-taxable event, even if you receive an information return from an exchange or platform as a result of the transfer.
What records should I keep of cryptocurrency transactions for tax purposes?
The Internal Revenue Code and regulations require taxpayers to maintain records that are sufficient to establish the positions taken on tax returns. You should therefore maintain, for example, records documenting receipts, sales, exchanges, or other dispositions of cryptocurrency and the fair market value of the cryptocurrency.
- Keep an eye on how long you keep your crypto since tax rates change depending on how long you keep it.
- Rates change between short- and long-term capital gains tax rates.
- “Tax-loss harvesting” is a strategy used by investors to lower crypto gains taxes. This involves selling your crypto at a loss to offset capital gains taxes.
- Though there are several ways your crypto could be taxed, you also have multiple options for using your cryptocurrency without incurring taxes.
View Article Sources
- Crypto.com Reviews (Jan 2022) — SuperMoney
- Coinbase Digital Currency Exchange Reviews (Jan 2022) — SuperMoney
- Cryptocurrency — SuperMoney
- Virtual Currencies — IRS
- FAQs on Virtual Currency Transactions — IRS