TMCnet Feature
June 22, 2021

How will my income from cryptocurrency be taxed?

Your cryptocurrency income will be taxed as per the policies set by IRS. Your cryptocurrency-related transactions will be entered in the appropriate columns in Schedule D, which is an attachment of Form 1040 while filing for income tax returns. The dates, penalties, and late fees are common across all types of income taxes including those for cryptocurrencies.

How is cryptocurrency taxed?

Cryptocurrencies are taxed in two ways: income-based tax and tax on capital gains.

IRS considers all types of cryptocurrency earnings such as:

  • Payments for services and products
  • Mining rewards
  • Confirmation and validation rewards
  • Staking rewards
  • Cryptocurrencies received in airdrops and blockchain forks

As ordinary income. As such, it has to be clubbed with your other income sources when filing for income tax returns.

Apart from earnings, any profits you make by holding, trading on cryptocurrency exchanges, or investing in cryptocurrencies are also taxable. This includes short-term investments (purchasing and selling within one year) with a higher tax rate and long-term investments (selling your holdings for a profit after a year of purchasing or more) with a lower tax rate. In this case, cryptocurrency investment, trading, and holding related profits (and losses) will be viewed as capital gains (or losses), such as stocks and bonds.

In both cases (ordinary income and capital gain), you have to provide details related to your cryptocurrency holdings and transactions while filing for IT returns.

How to report crypto gains and losses?

You report them as you’d normally report any income or capital gain while filing IT returns. Note that cryptocurrencies don’t have any special rules. They are considered capital assets. They are not seen as a method of payment or transaction. All rules that apply to investing in stocks also apply to purchasing and investing in cryptocurrencies. Reporting them, therefore, is fairly easy.

Schedule D in Form 1040 is the place where you write both, income and capital gains made with cryptocurrencies.

How to minimize crypto taxes?

Taxes on cryptocurrencies cannot be minimized. A part of it can be offset if you suffer capital loss within the same category. What this means is that if you make a profit of $500 but also make a loss of $100 while dealing in various cryptocurrencies in the year, you can offset the total capital loss against the capital gain to reduce the total tax to pay (only cryptocurrency-originating losses can be used to compensate the cryptocurrency-based profits). However, you will not intentionally make a loss just to offset it against the profit as it will yield no advantage.

Another thing to keep in mind is that you should always keep USD-equivalent figures with you. If you purchased a cryptocurrency on an exchange, then note down when you purchased it and for how much. For example, purchasing 1 Bitcoin a year ago ($5,000) and selling it today ($36,000) would’ve got you a gain of $31,000. If you don’t keep the information handy of the USD-equivalent price of your purchase, you could be taxed for your total holding (which would be $36,000) instead of only the profit (which is $31,000).

What to do if you forgot to report crypto taxes?

If you’ve forgotten to report your crypto profits or income then don’t panic. You can always report your crypto earnings for the previous years. The IRS knows that there’s still time before taxation on cryptocurrency becomes common knowledge and a generally abided rule. They will give some leeway if you’re willing to list your complete cryptocurrency income and/or profit to date in one go.

However, don’t think of holding this information back and not reporting previous gains or income just because they are outdated transactions. It can land you in more trouble later on.

You can make a case for forgetting to factor in your cryptocurrency-based incomes and profits. In case you didn’t have much know-how, then that’s also a strong case. You can argue that you didn’t have enough information or had some uncertainty related to how taxes work with cryptocurrency dealings and holdings. Consequently, you couldn’t file them in your previous tax returns.

What determines how much you pay?

Every American falls in a tax bracket. You first need to know yours. The bracket in the case of cryptocurrency taxes is determined by two factors: what’s your income and how are you filing.

How you file your returns is very important.

There are four ways to file.

  • An individual filing single.
  • A married couple filing separately.
  • A head of a household filing.
  • A married couple filing jointly.

Depending on your income bracket and how are you filing, short-term gains will be taxed at anywhere from 10% to 37%. The higher the income, the higher the tax will be. Calculate your short-term gain taxes on cryptocurrencies here.

Long-term gains (those above 1 year) can fall in one of the three categories: 0%, 15%, or 20%.

Tax rates differ from case to case. For example, if you’re filing singly and your income bracket is less than $40,000 then you’ll have a 0% tax on your cryptocurrency holdings. On the other hand, if you’re filing singly but your income bracket is between $40,401 and $445,850, then a 15% tax will be levied on your crypto gains.

On another hand, if you’re filing as a head of a household with over $473,750 income, then you’ll need to pay a 15% tax on your profits. As a head of a household that falls in the below $54,100 income bracket, you will be untaxed (0% tax rate) for your cryptocurrency gains.

The complete breakdown of all brackets can be found on the IRS website.

These are the factors that determine how much will you end up paying.

Note that furnishing records, documents, and receipts to verify your purchase times, dates, and USD-equivalents is completely your responsibility, just like filing normal tax returns.

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