Both ordinary people and institutional crypto investors eagerly buy, sell, and speculate with digital assets. Just a couple of successful deals with cryptocurrencies like Bitcoin, Ethereum, and others can make one filthy rich and even push you to forever quit your 9-5 job.
This is where grey areas of cryptocurrencies get on the stage. Taxation. Must you pay capital gains taxes on the profits made from crypto transactions?
Cryptocurrency was developed as an alternative to traditional fiat money payments. Cryptocurrencies use a cryptographic system with decentralization as its main mechanism. Since its main mechanism is decentralization without intermediation of centralized financial authorities like banks, virtual currency presents a great way for international payments and transfers.
The decentralized and anonymous nature of cryptos has pushed many governments to take measures that will ensure the legal use of electronic tokens without giving rise to criminal crypto transfers. Many countries are still developing methods to regulate cryptocurrency, and in many parts of the globe, this remains a prohibited or semi-prohibited asset. That is why the cryptocurrency tax treatment varies drastically in different regions.
Virtual Currency Legality
In some parts of the world, including the USA and Australia, decentralized finance products, in general, and crypto assets, in particular, are not viewed as a fiat currency, but rather as an investment asset.
In some jurisdictions (Russia, China), government is cracking down on cryptocurrency transactions, either prohibiting any operations with electronic coins or keeping a tight hold on such transactions. Banks in these countries also don’t accept cryptocurrencies and never provide any crypto-related services. Curiously enough but the central bank of China is going to issue its own digital currency – this news often flares in headlines.
In other lands, the tax regime is quite liberal, for example, in Finland, cryptos are exempt from VAT. In many regions, cryptocurrency is legal, but not recognized as an official currency. However, in Japan, in summer 2017, Bitcoin and other digital currencies were officially recognized as legal money. Salvador is also among the first countries to officially acknowledge Bitcoin and adopt liberal laws related to virtual money.
Crypto Tax Rules in Various Regions
Crypto taxes will primarily depend on the legal definition of electronic currency in the given jurisdiction, as well as the tax system used in that specific country. Some countries utilize wealth tax instead of Capital Gains Tax (CGT), others use either income tax or capital gains tax without applying the wealth tax, the fourths can use both income tax and capital gains tax rules.
Capital Gains Tax Policies in US
In the United States of America, cryptocurrency is viewed as a property that incurs Capital Gains Taxes when you dispose of it. It is stated in the 2014-2021 IRS Notice that:
«The Internal Revenue Service (IRS) is aware that virtual currency may be utilized to pay for goods or services, or held for investment. Virtual currency is a digital representation of value that functions as a medium of exchange, a unit of account, and/or a store of value.
… the sale or exchange of convertible virtual currency, or the use of convertible virtual currency to pay for goods or services in a real-world economy transaction, has tax consequences that may result in a tax liability.»
US authorities don’t set a specific crypto Capital Gains Tax rate. The capital gains tax rate you will pay on your cryptocurrency depends on how long you hold your asset and how much money you make from it. If you hold virtual currency for less than a year, you will qualify for a short-term capital gains tax rate. If you hold crypto for more than a year, you will be exposed to the long-term capital gains tax rate.
For short-term capital gains, you will pay the same tax percent as you do with your regular income. For short-term gains, your crypto taxation rate can be as small as 10% or as high as 37%. This depends on several factors, including your marital status (single or married), the amount of annual income, married and filing jointly, or married and filing separately.
At the same time, long-term capital gains tax for cryptocurrency is significantly lower varying from 15% up to 20%. The final tax deduction will also depend on the same factors as with short-term capital gains.
When you buy a cryptocurrency, it is in your best interests to properly document and maintain records of the purchase price. This is the cost basis of your crypto asset. When you dispose of cryptocurrency, the disposal price constitutes the selling price. The formula to calculate the capital gain is simple: the selling price minus the cost basis. If you are a US tax resident, you will need to determine a fair market value of the electronic asset in US dollars at the date of paying or receiving cryptocurrency.
Any gains or losses resulting from speculations with digital assets held for less than 12 months are taxed at the upper tax rate within which your taxable income falls. Any losses you inflict from cryptocurrencies can be used to offset income tax in a given reporting tax year in the amount not exceeding $3,000.
Like the United States, Australia defines cryptocurrency either as an asset that is subject to CGT on disposal or as trading stocks when buying and selling cryptocurrency takes on a business-like nature. If the latter happens, trading will not attract capital gain tax obligations, but rather standard business trading rules will be applicable.
If cryptocurrency is intended to be sold or exchanged in the normal course of business, the stock trading rules will come into play, not the capital gain tax treatment. Incomes from the disposal of cryptocurrency held as trading stock are viewed as ordinary income, and the cost of purchasing cryptocurrency can be deducted.
If CGT rules apply, virtual currency held by Australian tax residents for more than 12 months is eligible for a 50% capital gain tax discount. In essence, this means that 50% of the net profit is free from taxation.
If cryptocurrency has been disposed of but not removed from a digital wallet, it will still result in a CGT taxable event. Instead of the actual selling value, the tax authority will consider the AUD market value of the digital asset on the day of its disposal.
As in other Commonwealth countries, in Canada, gains from crypto speculation can imply either CGT or income tax, depending on the essence of the cryptocurrency activity. If a business is engaged in crypto operations, then 100% of the income gained from such activities is taxable, while only 50% of capital gains are exposed to taxes.
In Great Britain, HMRC (Her Majesty’s Revenue and Customs) has released a guide to cryptocurrency taxation. This guide explains the tax regime for crypto assets. For individuals, the paper states that virtual assets as personal investments (used to increase the cost of capital or make certain purchases) may attract a capital gain taxable event when a person disposes of their virtual assets.
Like in Australia, there may be cases where an individual runs a business that conducts financial trading in cryptocurrency. In this situation, taxable business profits eventuate, and the income tax rules take precedence over the CGT rules.
- As in many other countries, HMRC levies taxes on cryptocurrencies based on the holder’s activity. In most scenarios, people hold cryptocurrencies as personal investments. These private investors are required to pay CGT (a tax levied on gains from the sale of property or investments) when they sell or dispose of their assets. Capital gains start from 10% up to 20% of profits, depending on which tax category you fall into.
- HMRC does not treat cryptographic assets as currency or money. Instead, Bitcoin is classified as a unit (token) of exchange.
- If you manage to trade with the frequency and success that you consider to be a “full-fledged trader”, then you will be obliged to pay income tax instead. Unless you are a day trader who speculates with cryptocurrencies to earn a living, you should not worry about this tax. Income tax rates range from 0 to 46% depending on your income and place of residence.
- Individuals trading with cryptocurrencies may qualify for the reduction of their income tax accountability by offsetting some losses they incur while speculating with cryptos. UK taxpayers can also write off some costs associated with crypto trading, including price fluctuations in GBP from the day when the asset was acquired, transaction fees, and more.
A taxation system in this European country uses a wealth tax approach, instead of capital gains tax. In the Netherlands, an anticipated interest is imposed on the value of all assets minus all liabilities at a beginning of the upcoming tax season (excluding primary residence, business income from sole proprietors, and major shareholdings in companies exceeding 5%). The anticipated interest is taxed at a flat rate of 31%.
It may sound a bit unexpected, but Germany offers one of the lowest tax treatments for cryptocurrency in the European Union. Germany still charges 0% on Bitcoin transactions, although VAT may apply in some cases. Despite surprisingly easy taxation policies, Germany supports France’s efforts to create a Europe-wide regulatory framework for cryptocurrencies.
The thing is that Germany does not recognize cryptocurrency as a real currency, commodity, or stock. Instead, Crypto is considered private money. This distinction is important because private sales offer tax benefits in this country. Private sales not exceeding €600 are tax-free.
- Unlike Euro, Bitcoin, Ethereum, and other cryptocurrencies are not defined as a legal payment instrument in Germany. This means that companies are not required to accept cryptocurrencies in their daily operations. However, if a merchant wants to accept cryptocurrency for the exchange of goods or services, they can do so following private law.
- If your capital gain does not surpass 600 Euros, or if you have any amount in virtual currency for more than a year, your investment is tax-free.
- If you exchange cryptocurrency for fiat money or vice versa, you are free from VAT.
- However, things are different when cryptos are used as business assets rather than private assets. Companies holding cryptos as a part of their business may attract trade tax liabilities.
As you can see, most of the countries mentioned above define cryptocurrency as a property or asset that is exposed to capital gains tax when sold.
Crypto Tax Compliance: Tips to Stay On the Safe Side
Many cryptocurrencies including Bitcoin and Ethereum have been demonstrating an astonishing growth in their price, letting crypto enthusiasts make crazy money literally out of thin air. Rapid and remarkable profits are not the thing that will fall through the cracks of watchful tax authorities.
Taxation bodies make serious endeavors to take operations with digital currencies (and profits they bring) under their control. If you are considering investing in cryptocurrency for the short or long term or would like to engage in crypto trading, make sure you never violate the local law related to activities with alternative currencies.
In America, for example, the IRS and FBI have become significantly better at monitoring and tracking cryptocurrencies during criminal investigations. And if necessary, these authorities can easily freeze your assets.
So for those who carry out transactions with cryptocurrencies, there is even more reason to know the law and to know what taxes they can incur by their actions. Good news: the IRS views electronic coins in the same way it views other major real-world assets like stocks and bonds. Bad news: this kind of tax treatment also makes it difficult to use cryptocurrency as a valid payment for goods and services.
Here are a few key things you need to know about cryptocurrency taxes in the US and how to stay compliant with Law.
Pay attention if you are not a US resident!
Cryptocurrency taxes work differently in various jurisdictions. This article only covers only the USA crypto realm. If you do not have any U.S. tax liability, be sure to consult a qualified tax advisor in your country to get informed on your income reporting obligations in your particular place of residence.
Crypto Taxes Rules: What You Need To Consider Before Owning Tokens
You will need to provide your crypto ownership history
When tax reporting, you will be asked whether you have performed operations with cryptocurrency. Form 1040 will ask you the following: “At any time during the reporting period, have you received, sold, sent, exchanged, or otherwise acquired any financial interest made in any digital currency?”
At this very point, it may be tempting to answer “NO”, lying to the government authority. If you don’t answer honestly, you could find yourself in legal danger, and the IRS hates liars and tax fraudsters, turning their life into a nightmare. Individuals who fail to report income correctly may encounter strict penalties, asset freeze or confiscation, or even criminal proceedings. To stay safe, make sure you are never suspected by the IRS to owe some government taxes on virtual currency transactions.
However, there is one nuance to be aware of. In a recent clarification from the IRS, it is stated that US taxpayers who buy virtual assets only with fiat currency do not have to answer “YES” to the question.
Don’t try to avoid being taxed just because you didn’t receive Form 1099
When you deal with a bank or brokerage, you (and the IRS) usually receive a Form 1099, which shows the income you have received during the tax year. However, this may not be the case with cryptocurrency.
There is not yet the same level of reporting for cryptocurrency compared to the typical 1099 tax forms for stocks, interest, and other payments. The IRS still cannot get valid reports from crypto exchanges, especially those that don’t establish clear KYC policies for their users.
However, starting in November 2021, new tax regulations will require more detailed tax reporting for those working in the industry starting January 1, 2023. The law mandates brokers (including, strangely, any person who transfers digital assets to another person) to report this information to the IRS in a 1099 form or similar way.
Critics say the law will require anyone who transfers cryptocurrency, including miners and crypto wallets, to comply with the new rules, including those who cannot have access to this information. However, lawmakers are already working on a new bill to better define who falls under the rules of the law.
Still, an absence of a form 1099 will not free you from your tax obligations: anyway, you must report on your capital gains and pay tax on them. However, this is not all the bad news: if you have suffered a capital loss, you can deduct it from your tax returns and decrease the size of your taxable income.
Any operations with cryptocurrency incur tax obligations
Many crypto users naively think that if they only use crypto tokens without engaging in trading, it will save them from the necessity to pay taxes.
Every time you swap electronic tokens for fiat currency, or pay with crypto for products or services, you become tax-responsible. You will create a commitment if the selling price of your cryptocurrency exceeds its cost basis (the price you pay for it on the date of the contract). Therefore, if you get more money than you spend on your cryptocurrency, you end up with tax liabilities.
Of course, you can also claim tax reductions if the value of goods, services, or real currency you buy with crypto becomes lower than the cost basis of your virtual currency. In any case, you need to know the cost basis of your virtual assets before making any calculations and reporting with the tax authority.
Please note that this is not a transaction tax. This is a capital gains tax – a tax on the profit made from buying an asset at a lower cost and re-selling it at a higher cost. And, like stocks that you buy and hold, unless you exchange virtual currency for something else, you are not making a profit or loss.
As a bit of friendly advice, consider using one cryptocurrency exchange (broker) to make tax reporting easier. If you use several crypto exchanges and wallets, a good rule of thumb is using top-tier crypto tax software that helps track your crypto transactions and calculate incurring taxes.
Profits from virtual currency trading are treated as ordinary income gains
If you have made a profit from selling or purchasing cryptocurrency, government taxes such gains the same fashion it does with any other type of profits made from capital assets.
So, you expect to pay regular short-term capital gains taxes (up to 37 percent in 2022, depending on your income size and marital status) on assets owned for less than 12 months. But for assets possessed for longer than 12 months, you will end up paying long-term capital gains taxes, at a lower rate (from 0 up to 20% depending on your life circumstances).
The same tax treatment is applicable to virtual coins. You pay a corresponding capital gain tax based on your situation, as surely as you can deduct capital losses up to $3,000 per year. If your loss exceeds this amount, you may carry it further over to the next (upcoming) tax season.
Miners may encounter a different crypto tax treatment
Individuals that engage in crypto mining can qualify for operational expenses deductions as any other regular business does. Your profit is generated from what you produce.
If you are a crypto miner, you earn income at fair market value, so this is your cost basis in the digital asset. If it is a trade or business, your expenses can be deducted.
But the last point is the key: you must be in a trade or run a business to qualify for expense waives. Minting some tokens through your mining farm at your leisure doesn’t make you eligible for tax deductions.
Gifted cryptocurrencies are treated like other gifted assets
If you give your virtual currency to somebody else, for example, to your friend or colleague to whet their interest in cryptocurrency, the tax system will treat your gift in the same manner as it would do with any other similar gift. As such, gifted tokens could encounter gift tax liability if their value surpasses $16,000 in 2022. If the recipient sells the gift, the cost basis remains the same as the giver’s cost basis.
However, there are several methods of avoiding taxes on gifts even if you exceed the allowed threshold, such as by using the lifetime tax exemption.
Inherited virtual currency is treated in the same way as other heritage assets
Hereditary virtual coins are treated like other fixed assets that are transmitted by heredity. Such assets can be exposed to succession duties if the value of these assets exceeds a certain threshold ($12.06 million in 2022).
Like most stocks, the majority of cryptocurrencies will have an increased fair value on the day of coming into an inheritance. Thus, for tax authorities, cryptocurrency is considered a regular capital asset.
The use of cryptocurrencies can be surprisingly cumbersome, starting with tracking your cost basis, documenting your gains that result from disposing of the assets, and then potentially paying taxes (even if you don’t receive a Form 1099). In addition, tax authorities like IRS are enhancing their scrutiny and surveillance trying to identify potential tax evasions, so that those who are dealing with cryptocurrencies get on the radar of taxing entities. All of these factors make cryptocurrencies difficult to use and likely hinder their wider adoption.
We at Crypterium see cryptocurrencies as a foundation for tomorrow’s decentralized, open, globally-available financial system. Virtual currencies indeed open new finance horizons and change the way people pay, transact, and do business. We encourage our customers to stay compliant with tax laws. In virtually every jurisdiction, taxpayers are mandated to report their income and losses on all operations they have performed during a tax year.
Tax entities find you responsible for providing reports on all gains and speculations, whether they made from traditional trading, investing, dividends, or from dealing with cryptocurrencies. Crypto wallets like Crypterium record and keep the history of all your transactions for tax purposes. The Crypterium digital wallet allows you to generate reports on transactions with a breakdown on buying, selling, sending, or receiving crypto assets.
Please keep in mind that these reports are associated with your Crypterium account only, and they do not reflect operations performed through other wallets or cryptocurrency exchanges. Crypterium cannot access the information about your virtual funds kept on other platforms or exchanges. If you use other solutions, you will need to generate reports from all of them to report to the tax authority.
Crypto Tax FAQs
Do I have to pay taxes on cryptos?
In the USA and virtually any other part of the world, you will need to pay some taxes on the gains from your crypto activity. In America, virtual currency is not considered a real currency. Instead, it is treated as property – just like a stock or real estate. In most jurisdictions, you will encounter certain tax obligations whenever you give away shares, property, crypto tokens, collectibles, or Forex.
Can the IRS monitor operations with cryptocurrency?
The IRS is able to track and interfere with crypto transactions.
You should be aware that the Internal Revenue Service closely works with cryptocurrency marketplaces like Coinbase, Binance, and other exchanges and obliges them to provide customer information to ensure crypto traders report their crypto profits (and losses) correctly. Many crypto exchanges that incorporate KYC procedures send Form 1099 to every user who makes over $600 during one financial year. And this information is also provided to tax authorities in the USA.
The IRS uses this information to send letters to US residents to remind them to report their cryptocurrency gains and pay corresponding taxes, and also to audit and confiscate assets from tax evaders.
The best route to follow is to comply with tax regulations and accurately report revenues from cryptocurrency to a local IRS office.
What if I lose my crypto investment?
Capital gain tax liability will not occur if you suffer crypto capital losses. While losing your investment always hurts, the good news is that you can offset your capital losses against your net capital gains for the year to lower your overall tax bill. In the US, there is no cap on the amount of capital loss you can write off within one year, so if you bear significant losses, you can write off all of your net capital gains and avoid paying any taxes.
Things can get even better because if your capital losses exceed your net capital gains, you can also offset up to USD 3,000 in capital losses against regular income to lower your overall tax bill even greater.
If your capital losses still outweigh the gains, you can carry forward the losses to later income years to offset against would-be gains. You can carry forward capital losses as many times as you wish (infinitely many times, in theory) until all your losses are written off.
Are all crypto events taxable?
Almost every crypto event will be subject to tax liability. Main cryptocurrency taxable transactions include:
- Selling crypto tokens for cash;
- Paying for products and services with crypto;
- Converting one crypto coin to another;
- Producing crypto (mining);
- Receiving payment in crypto tokens or as a result of token airdrop;
- Being rewarded with crypto (including if you earn interest from staking your tokens in liquidity pools).
Transactions must be recorded at their fair market value, calculated in US dollars. For example, if you buy a cup of cappuccino and pay with Bitcoin (BTC), you need to record the disposal of Bitcoin equal to the value of one cup of cappuccino (fair market value) in dollars.
Very often, cryptocurrency projects conduct so-called airdrops, giving users some tokens for free. If you get some crypto through an airdrop event, your cryptographic assets will be taxed in the same manner as ordinary income is and at the fair market value on the day of receipt.
If the airdropped tokens are just kept in your crypto wallet and you do not perform crypto transactions with them, these assets are not taxable. If you receive tokens as a result of a fork, your tokens become taxable the moment you start transferring, selling, exchanging, and otherwise using them.
Are there non-taxable crypto events?
There are a few non-taxable events with cryptocurrencies:
- Buying electronic currencies with real currency (fiat money like USD and EUR) and holding it without performing any other operations.
- Donating virtual tokens to a qualified tax-exempt charity or no-profitable organization
- Transferring tokens between your wallets (make sure such transactions are not treated as the disposal of virtual currency by your cryptocurrency exchange or service provider).
Charitable contributions and gifts in the form of virtual currency and possible tax liability
- The gift receiver. Crypto tokens received as a gift generally do not produce a taxable event until the gift receiver decides to sell the tokens. If you decide to sell the gift, its cost basis will remain the same as on the day when you received it.
- The gift giver. You can give up to $15,000 in cryptocurrency annually per recipient without incurring tax obligations. If your gift’s value exceeds $15,000 per recipient, you can file a gift tax return.
- Charitable donations. If you donate virtual currency directly to some charitable organization, you can apply for a charity deduction equal to the fair market value of the donated cryptocurrency. Your charitable contribution deduction is typically equal to the fair market value of the electronic asset at the time of the donation if you have owned the electronic asset for more than 12 months.
Fair market value – what is it?
The Fair Market Value (FMV) of an asset is the specified price at which this asset will be sold on the open market. The fair market value is negotiated between the willing buyer and seller, both of whom are fully informed about the asset in question.
Meanwhile, the cost basis is the initial cost of the asset for tax reporting, usually the purchase price adjusted for stock splits, dividends, and revenues from capital distributions. The cost basis is used to determine the capital gain, which is equal to the difference between the cost basis (the original value) of the asset and the current market value.
What tax forms may I need?
Tax Form 8949. If you have performed virtual currency transactions that fall in the category of capital gain and loss, then these transactions must be reflected in Form 8949. To fill it out, you may need your transaction history reports from all the cryptocurrency exchanges where you transacted.
Tax Form 1040. Schedule D, Capital Gains and Losses. Simply called Schedule D for short, this form summarizes all your capital gains and losses during the tax year.
Tax Form 1099-MISC. Miscellaneous Income. You will need this form to report rewards/gained profits from such virtual currency activities as staking, lending, and other similar programs if you have earned more than $600 in a tax year.
To pay tax on Bitcoin and other cryptocurrencies is a complex and onerous process. If you have any doubts, consult an experienced tax professional. This article does not provide tax advice. It is for general informational purposes only, and it must not be used as a substitution for talking to a qualified tax advisor regarding your financial products or crypto assets.