Cryptocurrency investing is both “cool’ and "hot.". It is a type of digital asset that is traded online. There have been wide fluctuations in value, and this means it is an attractive investment for traders and other investors. But did you know that a transaction with cryptocurrency (Bitcoin for example) may result in a taxable income? Let’s say you purchased 10,000 units of Bitcoin for $20,000. If the Bitcoin appreciates and you purchase a $40,000 yacht with 5,000 units of Bitcoin you would have a taxable income of $30,000.
If you have been investing in cryptocurrency the IRS has been keeping tabs on you. In 2017, the IRS won a lawsuit requiring Coinbase (one of the largest digital currency exchanges) to hand over all information of customers that have been trading over $20,000 on this platform. So, if you have recently had a $20,000 transaction and you think the IRS doesn’t know about it, you are probably wrong.
The IRS has recently sent out 10,000 letters warning cryptocurrency holders that they may have filed their tax returns improperly or may not have done so at all.
The IRS says that virtual currencies are to be treated as property, not currency. What is the significance of treatment as property? There is a lot of significance. In general, when you exchange property for goods and or services a taxable transaction occurs. In the yacht example above, there is a $30,000 gain (on the cryptocurrency, not the yacht). This gain should be treated as either a capital gain or ordinary income depending on the transaction.
If you are a provider of services and get paid in cryptocurrency, you would recognize taxable income based upon the fair value of the cryptocurrency received on the date it is received. But what is the fair value. Cyrptocurrencies can fluctuate in value up to 20% in a day.
All US income tax returns are required to be filed in U.S. dollars. In order to file their tax return, taxpayers must figure out the fair market value of their cryptocurrency transactions. The price fluctuation and thin market can make this difficult.
The IRS is “cracking down” on those trying to get out of paying taxes on their cryptocurrencies and warn that “taxpayers could be subject to criminal prosecution.” The rules are complicated. If you deal in crypto and have questions, please do not hesitate to call us at 212-786-7476.