Cryptocurrencies have grown quickly from a niche technology with a tech-savvy user base to an entirely new asset class that has attracted attention from a broad range of individual investors, as well as mainstream institutions.
You’ll often see cryptocurrencies criticized for being a speculative asset, yet studies show that emerging markets in Africa, South America and Southeast Asia are increasingly using cryptocurrencies as actual currencies. For example, data from a Statista survey showed that one out of three respondents in Nigeria own or use cryptocurrencies, compared to six out of 100 in the US.
While cryptocurrency interest from North American and European investors is largely speculative, steady growth in other markets demonstrates the possibility of overcoming challenges with traditional fiat currencies. Additionally, next-generation cryptocurrencies like Ethereum and Cardano have enabled entirely new technologies with powerful use cases.
As adoption continues, investors are taking another look at cryptocurrencies as a valuable asset class with blue-sky potential.
However, anyone putting their money into cryptocurrencies should be well aware of the tax implications of investing in the asset class and transacting with it. Most countries have enacted some form of tax regulations similar to capital gains laws, which must be understood to avoid steep fines and other penalties. Read on to learn the basics.
How are cryptocurrencies taxed in the US?
The US was one of the first countries to enact cryptocurrency tax regulations, and they closely mirror capital gains and income tax laws with specific taxable events. As a result, it’s well worth consulting the official Internal Revenue Service cryptocurrency FAQ for up-to-date information or to dive deeper into any of the information below.
Taxable crypto events include:
Selling cryptocurrency for any fiat currency (US or Canadian dollars, euros, etc.).Purchasing any goods or services with a cryptocurrency, even small purchases, as this constitutes a selling event.Sending someone cryptocurrency as a gift if the gift amount exceeds US$15,000 for the duration of the tax year.
You’ll owe taxes on capital gains or losses realized from these events rather than the full amount of the assets. You’ll calculate the difference between the price you paid when the asset was acquired and the price when the asset was sold or swapped.
What are the tax rates for these events? To further complicate the matter, taxes fall into two categories:
Short-term capital gains – If you hold an asset for less than a year, you’ll be taxed at the same capital gains rate as your income tax bracket. Losses can offset income tax by up to US$3,000.Long-term capital gains – If you hold an asset for over a year, the capital gains tax rate can be 0 percent, 15 percent or 20 percent, depending on your individual or combined marital income.
However, some cryptocurrency actions constitute income tax rather than capital gains. Income tax events include:
Receiving cryptocurrencies from an airdrop eventInterest earned from staking or other DeFi lendingIncome from cryptocurrency miningReceiving cryptocurrency as a reward for work performed
Events in this category will be taxed in accordance with income tax regulations, which will vary based on if you’re a sole proprietor, an employee paid in cryptocurrency or a mining company paying yourself a regular salary.
How do you report cryptocurrency taxes?
How do you actually report your cryptocurrency taxes? First, you’ll need an in-depth report of all of your transactions with a taxable event during the year. This can be arduous and time-consuming to put together depending on your activities. You’ll need to fill in Form 8949 and add it to Schedule D (Form 1040) for capital gains tax purposes.
If you earned any cryptocurrencies by way of income tax events, you’d need to add them to Schedule 1 (Form 1040) or Schedule C (Form 1040), depending on the situation. Fortunately, new services have emerged that can handle the heavy lifting and provide you with ready-to-submit forms, but these services will have their own fees. Additionally, major platforms like Coinbase Global (NASDAQ:COIN) have integrated basic tax tracking and documentation.
What if you don’t report cryptocurrency events in accordance with applicable regulations? You may be charged with tax evasion, which incurs penalties ranging from fines to incarceration.
How are cryptocurrencies taxed outside the US?
Non-US investors generally face similar cryptocurrency tax regulations. The US set the standard for taxing this emerging asset class, and most governments have adapted the general guidelines to meet their own capital gains and income tax regulations.
For example, the Canada Revenue Agency (CRA) has provided a guidance document to help investors understand how to track and pay cryptocurrency-related taxes. The CRA views cryptocurrencies as a commodity, treating them as either income or capital gains, depending on the circumstances.
The CRA’s guidance closely mirrors that of the Internal Revenue Service, with events like selling, swapping or transacting with cryptocurrencies falling under capital gains, and events like mining and airdrops constituting income.
Every investor should carefully research tax laws within their own country prior to investing. Researching applicable regulations ahead of time will help you track every transaction and pay the appropriate taxes. In addition, when considering taxes, you’ll also have a more accurate understanding of your actual profit or loss.
What about cryptocurrencies on a global scale? You’ll need to carefully consider any international trade laws and taxable events that may apply in addition to specific cryptocurrency tax laws.
Lastly, it’s worth highlighting that the US and Canada, alongside other countries, do not tax simply holding cryptocurrencies. Instead, the taxable events discussed above represent capital gains, losses or income. As a result, you can buy and hold your chosen cryptocurrency for as long as possible to accommodate taxes when you decide to sell.
What happens if you don’t report cryptocurrencies on taxes?
Understanding the various taxable events within your country is essential to investing in cryptocurrencies. Failing to understand these laws will result in an inaccurate overview of your actual profits or losses from investments.
Failing to pay taxes as required can also result in heavy fines and penalties, including incarceration in the US. Avoiding the workload and costs of paying cryptocurrency taxes is not worth the risk.
Investing in cryptocurrencies is an increasingly attractive option, but to avoid problems investors must understand taxes and regulations before exploring this emerging asset class.
Securities Disclosure: I Melissa Pistilli, hold no direct investment interest in any company mentioned in this article.