Reporting Your Virtual Currency Transactions

Stacks of bitcoin and chart of increasing and decreasing virtual currency value
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The IRS is becoming more active in tracking cryptocurrency.  Although it is not a tangible form of currency, it is still considered income and is taxable, just like any other property.  In July 2019, the IRS sent letters to 10,000 taxpayers who had virtual currency transactions who may have
failed to report income and pay taxes owed on their 2018 returns. 

For this filing year, the IRS just released a new Schedule 1 for the 2019 tax season with this question on the form:  “At any time during 2019, did you receive, sell, send, exchange or otherwise acquire any financial interest in any virtual currency?”  If you have cryptocurrency transactions, consider the following before you choose to withhold this information.

Reporting Virtual Currency

Most transactions involving virtual currencies and even holding virtual currencies as an investment have consequences that could result in tax liability.  There are several different ways to report cryptocurrency transactions and failure to do so can be costly.  Your return may be chosen for
audit and you may have to pay not only tax on the transaction, but penalties and interest.  In extreme cases, prison time and large fines of up to $250,000 may be incurred.  Basically, this is the tax treatment of transactions:

  • If you sell it and have a capital gain, you must pay the capital gains tax.
  • If you exchange virtual currency for real currency, you will have a gain or loss which is the difference between your adjusted basis in the virtual currency and the amount you receive in exchange for it. 
  • If you receive cryptocurrency from your employer, it is subject to federal income tax withholding, FICA tax and federal unemployment taxes, just like wages. 
    This should be reported on your Form W-2.
  • Independent contractors who are paid in virtual currency must pay self-employment taxes.
  • If you pay someone with virtual currency in exchange for a service, then you have exchanged a capital asset for that service and will have a capital gain or loss. 
    The gain or loss will be the difference between your basis in the virtual currency and the value of the services you received.
  • For those who mine cryptocurrency, the fair market value of it on the day of receipt must be included in gross income.

Treat It Like an Investment

Basically, for tax purposes, the virtual currency is treated as an investment in the same way a security is. The taxpayer needs to maintain cost records similar to the way they track their basis for stocks and bonds.  A major difference is that with virtual currency, there will not be a broker
doing this for them. 

The cost basis will be the original value of the asset, but it is much more difficult to determine this in the way the original cost of a stock could be found by going back through historical records of stock price and re-invested dividends.  

Jeffrey Levine, CPA and director of financial planning at BluePrint Wealth Alliance in Garden City, New York recommends that anyone trading in bitcoin or other cryptocurrency invest in a software specific to virtual currency that will allow tracking of transactions.   Since the transactions can occur on different platforms with exchange prices that differ across platforms, trying to track the basis later will be almost impossible.

This is not intended to be a complete guide to cryptocurrency transactions but is meant to put you on the alert to protect yourself from penalties and fines from not reporting transactions correctly. Please contact an Avizo Group team member if you have questions.

Marian Pekelder, CPA, Strategic Advisor

With over 25 years of experience, Marian is a tax compliance and planning guru.  Business owners can rely on Marian for answering your questions with practical, well-researched advice.

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