It has been a common question among the casual cryptocurrency or Bitcoin traders: “To report cryptocurrency or not” on the tax returns. When in doubt with taxes, always report! This article focuses on the necessity of reporting your gains or losses from cryptocurrency trades on tax returns. It also covers the penalizing actions of the IRS if you do not comply.
Why pay taxes?
For everyone who is earning an income and/or investing in various places to make some gains or losses – there is an obligation from the government that you pay taxes appropriately. This helps to keep the government infrastructure running. It is important for the smooth functioning of the government as well as to provide a good quality of life for everyone.
Buying & Selling Cryptocurrency
Many folks with a disposable income would like to invest. One such investment vehicle is digital assets a.k.a cryptocurrency. They have emerged after the financial collapse in 2009 and been gaining popularity since then. Now that there are 1000+ cryptocurrencies in the market apart from the first one Bitcoin, it has become mainstream to trade them with confidence in various trusted and regulated exchanges.
Tax forms for reporting gain-loss on cryptocurrency trading to the IRS.
When you make an investment or trade certain assets, it indeed results in either gain or loss. In the United States, the tax authority, the IRS has classified cryptocurrency as a property in 2014 and mentioned that all capital gain laws apply to the crypto trading. This is interesting because the cryptocurrency aims to be the currency, but the IRS treated it as a property instead of currency. The gains/losses are called capital gains/losses and these would stand along with gain/loss on stocks and real estate on your tax forms.
You have to report the cryptocurrency to the IRS and it is done with specific forms called capital gains document – alternatively called Form 8949 and also the value is summarized in section D of Form 1040. Apart from this, income generated from cryptocurrency mining/staking activity needs to be reported along with income.
What happens if you don’t report your gains/losses?
As mentioned earlier, it is important to report your income and other activities and pay taxes for the benefit of the country and be compliant with the regulations. In such a case, if you forget to report certain trading, investment, earning activity on your taxes, the IRS or the taxman of the corresponding country will get back to you on missing information.
They can get back to you because there are various streams of information that flows to taxman against each Tax Identification Number (an individual or a business). This forgetfulness will cost you if you voluntarily or involuntarily missed reporting your activity. It could result in penalties, interest payments on the missing revenue for the IRS, and sometimes even worse for non-compliance – depending on the severity of your mistake and the intention behind it. So, it is important to comply with the tax laws and report your gain/loss in general as well as on cryptocurrency trading/investments/activities.
Consequences of not reporting cryptocurrency to the IRS
Warnings: With respect to cryptocurrency or the virtual currency or the digital assets, whatever they would like to call it when you do not report or under-report your activity on your taxes – you will be sent some warning letters. These letters would include and not just limited to Letter 6173, Letter 6174, Letter 6174-A. This is a kind of warning shot for everyone to correct their reporting and if reported correctly, there might not be an action required.
Please consult your CPA or reach out to our BearTax team for further professional consulting if you have received this
Notices: As mentioned earlier, IRS has definitely many ways to figure out your trading activity – including acquiring data from exchanges regarding transactions above a certain threshold, getting information from email companies regarding the communications of your trading activity on exchanges. Based on these inputs, the IRS sent out notices last year to those who didn’t report capital gain/loss appropriately on their taxes.
These notices need certain actions depending on whether you missed out completely or have been notified incorrectly or under-reported your gain/loss. Please consult your CPA to handle them appropriately or reach out to BearTax, to get in touch with crypto-savvy CPAs and get it resolved.
Claiming losses on your taxes – a little relief from lost money
Reporting your cryptocurrency activity is necessary and might give you a benefit in some cases (if you have lost some money trading cryptocurrency)!
Interesting right – what’s the benefit of reporting my losses? Because you can offset gains on your other trading activity like stocks or real estate. Remember, we discussed above that stocks, real estate and cryptocurrency fall into the same category.
So, if you made $10K on stocks and lost $10K on cryptocurrency – you neutralized all your gains on stocks in real life as well as on taxes. So, you owe nothing on gains made on stock trading.
Similarly, these losses could help you offset your income too. If you do not have other investments you can deduct up to $3000 in capital losses from your income, also if you got more losses than 3000, you can even carry it forward to the next year.
Tax Loss Harvesting
To take advantage of the ability to claim losses on your taxes, some people recommend evaluating your yearly balances. Particularly, in the last 3 months of the tax year (January to December in the US and July to June in Australia). It helps you to see opportunities to sell an asset that is in losses and acquire it back at similar cost basis. This will let you realize losses and can be claimed on your taxes.
We cannot suggest this approach outright for 2 reasons.
- This is typically called a wash sale and is disallowed in regular stock trading. There is a good chance that IRS could bring it here. However, this rule currently doesn’t apply to capital gains/losses.
- This works out well if the asset value continues to stay the same or relatively lower in the future. Else, you will end up having more gains than normal because of the new cost-basis (lower purchase price than earlier). This could put up higher gains than normal.
Given all the factors mentioned above, evaluating your gain/losses across the year is important. Proper calculation and reporting on gain or loss on your taxes are mandatory for your own good. You can be compliant and claim losses (if any). You can always amend your tax returns with the help of a CPA if you missed filing for previous years. This makes sure to keep you away from any letters or notices from the IRS and other compliance headaches.
We continuously lookout for additional information and guidance updates from the IRS and bring them to your notice. Follow us on Twitter and signup for our newsletter to be informed of such changes. If you are mining or staking cryptocurrency to earn benefits(income), we have a guide on how to report that on your taxes.
- Here are 5 ways to stay ahead of your cryptocurrency taxes.
- Ways to handle referrals on your taxes.
- More information on penalties for not paying taxes on time.