Governments across the world are taking notice of the substantial profits many cryptocurrency investors have been making. But there are many different approaches to taxation across the globe.
For example, in the United States, cryptocurrency is defined as “property” by the Internal Revenue Service (IRS), just like stocks or real estate. Any disposal of property is subject to a capital gains tax while earning property is subject to an income tax.
Considering this, your cryptocurrency activities may impact your 2022 tax bill.
In this blog post, we will discuss taxable crypto activities, the essentials you need to know about crypto taxes, and the tools you may need to record your crypto activity and calculate crypto tax liabilities.
What are applicable crypto taxes?
With your cryptocurrency activities, you will typically be faced with three different taxes:
- capital gains tax
- income tax
- sales tax
Which crypto activities are taxable?
Below are the crypto activities that could incur the above-mentioned taxes.
If you sell cryptocurrency for a profit, you owe capital gains tax on the profit amount. Capital gains are the growth in the value of an investment, and it is taxed when an individual or an entity sells their holdings.
However, if you sell cryptocurrency at a loss instead, you do not owe capital gains tax for that transaction.
Trading cryptocurrency and increasing your coin balance does not count as capital gains either, as long as you do not profit in U.S. Dollar terms.
2. Cryptocurrency payments
Using cryptocurrency to purchase goods or services is counted as the sale of that cryptocurrency, so you will owe capital gains tax if its market value is higher than the price you bought it.
In addition, you will also owe any applicable sales tax that is generated by that transaction.
3. Crypto staking and mining rewards
Cryptocurrency staking and mining rewards are regarded as “earnings” according to the IRS, so they are liable to incur a regular income tax. You owe income tax on the market value of each reward disbursement, on the day you receive it. The tax rate you pay varies from state to state.
On the other hand, if you hold your staking and mining rewards and later sell at a profit, you also owe capital gains taxes on those profits, based on how long you have held them.
4. Earnings from playing crypto games (play-to-earn)
Earning tokens by playing cryptocurrency games is in practice the same thing as earning staking or mining rewards. Due to this, play-to-earn rewards are subject to the same income tax that applies to staking and mining.
If you earn cryptocurrency tokens from a game, you need to report them as income based on their fair market value at the time you receive them.
And just like staking and mining rewards, when you sell your play-to-earn reward tokens later at a profit, you will additionally incur a capital gains tax.
Essential things you should know about crypto taxes
Here are some important things you should know about how the IRS calculates cryptocurrency taxes:
Inactivity is nontaxable
You do not owe any type of taxes as long as you do not sell your cryptocurrency, regardless of how much its value grows.
Losses can be deducted
The IRS allows you to account for realized losses when reporting your cryptocurrency gains, and thus offset your net capital gains. For example, if you realized a profit of $10,000 when you sell your Bitcoin, but lost $10,000 with your Dogecoin investment, you would not owe any taxes since your net profit is zero.
Both the capital gains tax and the income tax are calculated based on your net income for a given period.
Reporting losses is not exclusively limited to cryptocurrency investments. If you have losing trades in stocks, FX, or real estate for example, you may close those positions and claim the losses to lower your cryptocurrency gains tax.
Please note that capital losses cannot be deducted from income-tax generating items such as staking, mining, and play-to-earn rewards.
However, if you lose more in total than you gain in a year, the IRS allows you to deduct up to $3,000 in net taxable income. Loses larger than can be carried over to subsequent years.
The tax rate on most net capital gains is no higher than 15% for individuals and families. You do not need to pay any capital gains tax if your total taxable income for 2021 is less than $40,400, or $80,800 for a family.
If your taxable income is between $40,400 and $445,850 ($80,800 and $501,600 for a family), then you will have to pay 15 percent tax on your annual net capital gains.
Above $445,850 and $501,600, the capital gains tax climbs to 20 percent.
As discussed, the specific income tax rate depends on the state in which you are residing.
Short vs. long-term capital gains
If you hold on to your cryptocurrency investments for more than a year, the profits you make on them would qualify for long-term capital gains tax rate, which is significantly lower than the regular, short-term rates.
The highest rate you can pay on long-term capital gains is 20%, while income tax rates can be as high as 37% in the short term.
You may likewise match your long-term gains by realizing losses that are older than a year.
Use cryptocurrency tax software
The sea of clauses and exceptions in cryptocurrency taxes can quickly become a labyrinth, which confuses the majority of investors. On the other hand, hiring a tax auditor to record, calculate, and file crypto taxes on your behalf can cost thousands of dollars. Auditors usually charge their services by transaction volume, which is especially expensive for high-frequency traders. It also bears the time cost of waiting for your taxes to be handled.
Conducting your cryptocurrency activities on a regulated exchange like CEX.IO allows you to keep all your records in one place. CEX.IO keeps detailed records of all your transactions, making it easier to calculate profits or losses.
But even using CEX.IO, it could still be difficult to calculate your net profit from the pile of cryptocurrency transactions and rewards, especially if you are a short-term, high-frequency trader. Due to this, you may need a cryptocurrency tax software that automatically calculates your cryptocurrency tax liabilities.
To address this, CEX.IO recently integrated with CryptoTrader.Tax to assist its customers in recording their crypto trading activities and calculating their tax liabilities.
CryptoTrader.Tax imports your entire cryptocurrency trading history from all exchanges, adds all your rewards (staking, mining, airdrops, gifts, etc.) to your taxable income, and generates a comprehensive tax report for you, which includes your bottom line tax liability amount. This saves significant cost and time compared to working with an individual tax auditor.
CryptoTrader.Tax also offers an NFT tax software that imports all NFT transactions from your wallets, and reports both your short and long-term gains or losses from your NFT holdings. Similar to cryptocurrency tokens, you do not owe any taxes for NFTs as long as you hold them in your wallet.
Once your tax report is generated on CryptoTrader.Tax, you can directly submit the report on the tax software you regularly use, such as TurboTax or TaxAct, or share it with your accountant to handle for you.
Below are the reports and forms that CryptoTrader.Tax automatically populates so that you can submit them via your TurboTax or TaxAct account:
IRS Form 8949
CryptoTrader.Tax auto-fills this tax form on your behalf and attaches it to your tax report. Form 8949 logs every crypto purchase or sale. This includes the total number of coins, the date and price you bought, the date and price you sold, and your gain or loss for each transaction. IRS Form 8949 is a required tax form, which is filed with the IRS.
Audit trail report
As part of your tax report, CryptoTrader.Tax generates an audit trail that details the numbers and methods used to calculate each step in your trading gains. Every single taxable transaction is shown for your records.
This form is to be filed with the IRS, which summarizes your short and long-term capital gains and losses from all investments, including cryptocurrencies.
Short & Long Term Gains Report
The short and long-term gains report contains all of your gains or losses from your trading history. For each trade, you will be able to view the Cost Basis, Proceeds, and Net Gain/Loss.
With this report, you can plan when to close your loss positions if you would like to offset your gains from different time horizons.
TurboTax Direct Import
After creating your tax report, CryptoTrader.Tax generates a CSV file that contains all your cryptocurrency trading gains and losses. You can directly export this CSV file into the TurboTax Online or TurboTax desktop versions.
Streamline your crypto tax activities
As the IRS defines cryptocurrency as “property,” crypto-related activities are subject to various taxes.
Paying crypto taxes can become a complicated process. Although there are some common guidelines and practices to ease crypto tax calculations and filings, unknown clauses and exceptions may still cause headaches.
CEX.IO solves the complexities of crypto tax reporting by integrating with CryptoTrader.Tax. CryptoTrader.Tax automates the recording, calculation, reporting, and filing processes for your cryptocurrency taxes, which can save money and time.
Before you use any tax software and file forms with the IRS however, be sure to do your own due diligence and consult with a tax professional as needed.