Years after the introduction of bitcoin, there is still a lot of confusion about its taxes. Remember that the cryptocurrency was launched to be a medium for daily transactions, though it has not yet gained traction as a currency. Today, it’s quite popular with many traders and speculators who have an interest in generating quick cash. The Internal Revenue Service (IRS) has tried to regulate cryptocurrency transactions. For example, the IRS decided to treat cryptocurrencies as property.
Besides, Form 1040 has a question that seeks to know whether or not you were involved in a cryptocurrency transaction during the tax year. Assets are usually subject to different types of taxes depending on the types of transactions. The good news is that given the unique use cases and characteristics of bitcoin, there are many exceptions. In this post, you will learn how you can defer bitcoin capital gains taxes.
Cryptocurrencies and the IRS
You have an obligation to report to the IRS your cryptocurrency transactions and pay taxes on them. If you hold on to your cryptocurrency as part of an investment, then you can be eligible for capital gain taxes when you sell or dispose of the cryptocurrencies. In other words, if you have lower bases in your cryptocurrency when compared to the market value on the sale or disposition of the cryptocurrencies, then you can have a capital gain and this is taxable.
The IRS treats cryptocurrencies as property, so it’s an asset that attracts federal income taxes. This means you need to report bitcoin as well as other cryptocurrency transactions on your tax return. If you fail to do this, it can lead to penalties, fines, or even criminal prosecution.
You should note that bitcoin is listed on exchanges and is paired with some leading global currencies, like the Euro and U.S. dollar. Even the United States Treasury acknowledges the importance of bitcoin. Therefore, bitcoin investments and their related transactions are considered to be legal.
Remember that you have to pay taxes on bitcoin transactions. The classification of bitcoin as an asset makes it clear its tax implications. The IRS makes it mandatory for any person dealing in bitcoin to report all transactions regardless of how small in value. Every person needs to keep a record of purchasing, selling, usage, or investing related to their bitcoin. Failure to do this, the IRS can send you a warning letter which can lead to prosecution.
There are several types of bitcoin transactions that can be taxed. These include the sale of bitcoins to a third party. For instance, if you decide to mine bitcoins and sell them to another party to make a profit, you need to pay capital gains taxes on this transaction
You can also be taxed for selling bitcoins to a third party you purchased from another person. For instance, if you decide to buy bitcoins at any cryptocurrency exchange or even from another individual and sell it for profit, you must pay capital gains taxes on this transaction.
Also, you may have to pay taxes for utilizing bitcoins to purchase services or products. For example, if you buy a pair of shoes using bitcoins that you mined at your house, then you need to pay capital gains taxes on this transaction. It’s worth remembering that the amount of tax tends to depend on some specifics of the transaction like the price of the pair of shoes and the value of bitcoins at the time of sale.
Lastly, using bitcoins that you purchased from another person to buy services and goods can also attract taxes. For example, if you withdraw bitcoins through an exchange to your wallet and decide to buy services or goods with them, you have to pay capital gains taxes.
This means you can be taxed as business or personal income depending on the scenario after deducting the expenses that you incur while mining bitcoins. Also, you can be taxed for investing in an asset.
Other taxable transactions
Payments or salaries you receive in cryptocurrencies are usually considered to be an ordinary income that is taxable. The cost or value basis for the cryptocurrencies focuses on their price on the day it was utilized for salary payment.
If you are a bitcoin miner, then you also have to pay taxes. Cryptocurrency mining is regarded as a taxable event. Therefore, the fair market cost or value basis of the coin can be its price when you mined it. Thankfully, you can consider making business deductions on resources and equipment you used in mining. The type of these deductions can vary based on whether you want to mine the cryptocurrencies for individual or personal gain. If you have a mining business, you can do the deductions to reduce your tax bill. However, you cannot do these deductions when you mine the cryptocurrencies for your benefit.
A mining business owner can make deductions to lower their tax bill. But you cannot make these deductions if you mined the cryptocurrencies for your to benefit.
Some people think that the conversion of a cryptocurrency to another needs to be treated as a like-kind transfer. The IRS can allow you to defer income tax on this type of transaction. As a result, most cryptocurrency investors used to take advantage of this to defer their gains from cryptocurrency trades. But the IRS recently determined that these exchanges are not considered to be like-kind exchanges.
Deferring your cryptocurrency income
One of the ways you can defer bitcoin capital gains taxes is to keep your short-term cryptocurrency investment until it becomes long-term. You can be subject to various tax rates, but it depends on whether they are long-term or short-term investments. These include cryptocurrency investments. Therefore, if you desire to reduce your tax liability, then you need to keep your cryptocurrency investment to help you to be eligible for long-term capital gains benefits.
Buying and selling cryptocurrencies within a year can help you gain or lose short-term capital. This tax rate is the same that applies when you pay an ordinary income. But if you keep hold of your cryptocurrency investment for more than a year before you decide to sell, then you can have a long-term capital loss or gain. Long-term capital rates tend to depend on your income, but you may have to pay less tax.
You can also choose to offset the capital gain on the assets with your capital loss. This strategy can allow you to subtract your losses on cryptocurrency assets of the year from their gains. Therefore, if you want to sell cryptocurrency to make a loss, then you can offset this loss with the gains you make by selling other cryptocurrencies for the year. When you have offset the capital gains and have a net capital loss, then you can use a certain amount of the capital loss to lowering your ordinary income.
You can also dispose of or sell the cryptocurrency investment for a year that you generated less money. As explained earlier, long-term dispositions or sales can be taxed at preferential rates. However, if you decide to sell a short-term cryptocurrency investment in a year that you generated less money, then your tax rate can be lower because a short-term rate is the same as an ordinary income rate that depends on the total taxable income. On the other hand, if you made less money in the taxable year, then there are good chances that you can have a lower tax rate on long-term and short-term capital rates. This can reduce your total tax liability.
Also, you can buy cryptocurrencies in a self-directed IRA. This is because IRAs require you to pay taxes later when you have a lower taxable income or even up front on contributions where you expect to have higher tax liabilities over time. You can find special IRAs like Roth IRAs that usually allow you to withdraw money tax-free but under certain conditions.
It’s also a good idea to offer your cryptocurrencies to a member of your family as a gift. Remember that if you decide to give your family member the cryptocurrency gift during the year, the IRA can allow you to exclude a certain amount of money each year per an individual with tax liability. This exclusion amount is $16,000 for this tax year.
You can also donate your cryptocurrency assets to charity organizations. If you decide to donate the appreciated cryptocurrency assets to charity, then you can reduce your tax. Charity donations of cryptocurrency assets can lead to zero capital gains tax and a deduction on your tax return.
In conclusion, cryptocurrency investments and income can produce capital or ordinary income. The tax rate can apply to the specific transaction, but it depends on the type of transaction as well as the holding period. You need to report your cryptocurrency incomes on your tax returns. Because this is a formal requirement, it means you can be prosecuted once you fail to do it falsely or fail to do it. This is why you need to consult a cryptocurrency tax attorney to advise you on how to defer your cryptocurrency investment and lower your tax liability.