Cryptocurrency Taxes

Early traders of cryptocurrencies like Bitcoin hoped this new currency would permit seamless and hassle-free transactions. However, the IRS treats cryptocurrency profits as income. The Internal Revenue Service (IRS) categorizes cryptocurrency as property. In 2014, the IRS announced basic rules on cryptocurrency in Notice 2014-21.

Read on for more information about how cryptocurrency taxes apply when cryptocurrencies like Bitcoin, Ethereum, and Binance Coin are used to purchase goods and pay employees and when they're traded for other securities.

Cryptocurrency Taxes on Consumer Purchases

According to the IRS, virtual currency does not have legal tender status in the U.S. However, cryptocurrency does have an equivalent value that is referred to as "convertible" virtual currency. When a Bitcoin or other virtual currency transaction involves a profit, the profit may be subject to capital gains tax.

For example, buy $100 in Bitcoin. The value of the virtual currency increases to $200. You use $100 in virtual coins to buy a meal, which you originally purchased for about $50. The IRS may say you've realized a $50 gain from this transaction and owe capital gains taxes on that amount. The reason is that the IRS treats your virtual currency not as money but property, like selling collectible stamps or artwork). You gained $50 from your fast-appreciating investment and now must pay the tax collector.

In addition, you're required to keep a record of the transaction for tax purposes.

Cryptocurrency Taxes in Other Situations

Cryptocurrency can be used for a variety of transactions. In other cases, the tax consequences will be different based on rules set forth by the IRS. Here are a few examples of how cryptocurrency taxes are levied in other situations.

• When received as wages, virtual coins are taxed as earned income. Independent contractors must pay self-employment taxes as well.
• When received as revenue, virtual coins are taxed as business income.
• When exchanged, traded, or converted, virtual coins generate capital gains or losses.
• When brought into existence through "mining" (solving complex computational problems to mint new coins), virtual coins are the miner's earned income.
• When sold or distributed in "initial coin offerings," a separate set of tax issues arise.

In each instance, the IRS will deem the virtual coins to be worth their fair market value in dollars at the time of payment or receipt.

While it may be tempting to pretend that these tax rules don't exist or can safely be ignored, that can be a risky strategy with the IRS. The same goes for state tax rules.

Other sorts of regulations exist too. For instance, the Securities and Exchange Commission has begun to regulate initial offerings of new cryptocurrencies as if they were initial public offerings of stock. Some states have also adopted mandates in their laws.

Under current tax laws, users of virtual currencies that can be converted into dollars have to deal with the realities of the IRS tax law system.

The IRS has a list of frequently asked questions (FAQ) for virtual currency transactions.

Have Questions About Bitcoin Taxes? Speak with a Lawyer

If you're in a tax bind over virtual coin transactions or any other situation where cryptocurrency is being used, a tax attorney can help you through the process. Consider reaching out to a qualified tax lawyer near you as you navigate this complex and uncertain new legal terrain.