Crypto Tax 101: What it Is & Why You Should Know
In this article, we will guide you through the basic of crypto tax and how can you be smart around it. Read this article to learn more.
Crypto has exploded in popularity in recent years and people the world over are now investing in virtual currency. If you're one of them, or are weighing up the pros and cons of doing so in the future, then you need to know the relevant tax rules and regulations and fully understand your tax liability.
The last thing you want is to find out that you owe taxes and you didn't even realize. Luckily, it doesn't have to be all that complicated.
In this article, we will guide you through the basics of cryptocurrency taxation, including the difference between short-term and long-term gains, common mistakes to avoid, tax implications for mining and staking, trading and investing, and reporting requirements.
Key Takeaways:
- You'll understand what is crypto capital gains taxes—whether it affects you or not.
- You can see the difference of potential taxable event between short-term and long-term crypto gains.
- We listed some of the common mistakes to avoid when paying crypto taxes
Introduction to Cryptocurrency Taxation
Crypto may be popular all over the world, but that doesn't mean there's a universal application of cryptocurrency taxes. Some countries are more crypto friendly than others and regulations that apply to crypto tax will depend on the country you reside in.
How crypto is classificatied
One of the criteria that you will definitely need to understand when it comes to how taxes are done is crypto's classification. Cryptocurrency is variously classified as an asset, currency or property, depending on where in the world you are.
#1: Asset
In cases where cryptocurrency is classified as an asset, it is treated similarly to other capital assets, such as stocks, bonds or commodities and is subject to capital gains tax. This is a common stance taken by lots of different countries all over the world.
#2: Property
In other areas, the U.S. for example, cryptocurrency is instead classified as property. That makes it subject to the same tax laws as the likes of jewelry, cars, investment properties, and even collectibles such as art. In this case, capital gains must also be reported in tax returns.
#3: Currency
Most notably in El Salvador, crypto is treated as a currency and can even be used to buy everyday items just like fiat currency would be in other countries.
Differences like these are important to understand so you've got a proper grasp as to the specific rules and tax rates applicable in your area.
Crypto Capital Gains Taxes
The act of buying cryptocurrency isn't usually in itself taxable - providing there are no further transactions using the cryptocurrency, that is. That holds true even if the value of the token goes up.
However, any subsequent gains made from buying, selling, or trading this digital asset are subject to taxation - Singapore and Switzerland are notable exceptions where private investors do not pay have to pay any capital gains tax (though other crypto taxes do apply).
Generally speaking though, when you sell your crypto for more than you bought it for, that's a capital gain, and you will need to pay taxes on that gain.
In some instances, there may be exemptions under certain circumstances (or in the case of Switzerland, no capital gains at all) so always make sure you have a thorough understanding of your local rules.
Even the IMF stated that crypto taxation are extremely tricky due to it's volatality.
Crypto Capital Gains Tax Example
Let's imagine that you've bought $750 worth of crypto assets, then later on you decide to sell and receive $1,000. That's a $250 gain, and this gain must be declared on your taxes. However, you may also be able to declare losses, too.
Why would you want to do that?
Well, if you bought that same cryptocurrency for $750 but ended up selling it for $500 instead, then you can report that $250 loss to offset other gains and taxable income.
The Difference Between Short-term and Long-term Crypto Gains
When it comes to cryptocurrency taxation, not all capital gains are created equal. There are in fact two different types of capital gains taxes to take into account, short-term gains and long-term gains, both of which are potentially subject to different rates of taxation.
Short-term gains are:
- Gains made from selling cryptocurrency that has been held for less than a year.
- They're are typically taxed at a higher rate than long-term gains.
- In 2023, the tax rate for short-term gains in the U.S. ranges from 10% to 37%, depending on your income
- In certain instances, short-term gains may not be subject to capital gains tax at all in some territories if they fall under a certain threshold. In Germany, for example, short term gains under $600 are tax exempt.
Long-term gains are:
- Long-term gains are gains made from selling cryptocurrency that has been held for over a year.
- They are taxed at a lower rate, ranging from 0% to 20%, depending on your income.
Tax Implications for Crypto Trading and Investing
If you act as a cypto trader and buy and sell cryptocurrency as an investment, in most territories, any gains or losses you make are subject to taxation. This includes gains or losses made from trading one cryptocurrency for another.
It is important to note that in some areas, the U.S. included, if you use cryptocurrency to purchase goods or services, this is also considered a taxable event.
The amount of the gain or loss will be based on the fair market value of the cryptocurrency at the time of the transaction.
Tax Implications for Mining and Staking Cryptocurrency
When you mine or stake cryptocurrency, as well becoming an integral part of the infrastructure of the particular blockchain, you're also creating value you can profit from.
You may not know this, but earlier this year in 2023, Biden's White House proposed a 30% tax on cryptocurrency mining. Fortunately, the proposed 30% crypto mining tax was dropped in the US Debt Ceiling Deal.
In some countries, this is considered in the same vein as ordinary income, whereas in others it's officially considered a capital gain.
This can affect how much tax is owed and how it should be reported. In the United States, income from mining or staking is taxed at an individual’s tax rate of 10%–37%, as it is considered a business activity rather than a capital investment.
Tax Implications for Getting Paid in Cryptocurrency
In some cases, employees may get paid in cryptocurrency - crypto can be converted into any currency internationally so is a useful way to pay remote staff equally, for example. They can then convert it into local currency.
If you're getting paid in the form of digital assets rather than in traditional fiat currency you will still need to pay tax as that salary counts as taxable income. In other words, crypto income is liable to income taxes at the same ordinary income tax rates.
In the U.S. for example, this can lead to the rather strange situation of getting taxed twice over. First off, when you receive crypto as payment, it's considered income based on the current market value.
Later, if the cryptocurrency increases in price, you might have to pay capital gains taxes on the value of the increase if you trade it.
Tax Reporting Requirements for Cryptocurrency
Remember, when it comes to reporting tax for crypto purposes, this isn't something that will simply happen, you need to take the initiative yourself to make sure you're on top of it.
So, if you have made any gains or losses from buying, selling, or trading cryptocurrency, or are getting paid in crypto, you're required to report these on your tax return. And don't forget to factor in gains or losses made from mining or staking cryptocurrency, too.
How exactly to do this will depend on where in the world you are. In the U.S., for example, any gains or losses will need to be reported on Form 8949, which is used to report capital gains and losses from investment property. You will also need to include this information on Schedule D of your tax return.
Unfortunately, there could be countries where you could be taxed even though you lost money, including losses that are out of your control like falling victim to scams.
So it's important to fully understand how to protect yourself from crypto hacks or scams that could result in more taxable events.
Check the guidance in your local area before undertaking any crypto tax returns.
Common Mistakes to Avoid When Paying Crypto Taxes
Mistakes can happen in life, but when it comes to crypto taxes it's best to take extra precautionary steps to ensure that this is one area of your life that remains mistake free.
Failing to report to authorities
One of the most common mistakes that crypto investors make is failing to report their gains to the relevant tax authorities.
Always bear in mind that gains made from buying, selling, or trading cryptocurrency are likely to be subject to taxation, just like any other form of asset, and as such will need to be reported to relevant tax authorities.
But you want to take in consideration in where you are because not every countries share the same crypto taxation law, some countries have better and more lax laws & regulation with crypto like Singapore.
If you're ever unsure what you do or don't need to report, seek guidance. It's never a good idea to assume one way or the other.
Failing to keep accurate records
Another common mistake is failing to keep accurate records of your crypto transactions.
You should keep track of the date and time of each transaction, the amount of cryptocurrency bought or sold, the price at which it was bought or sold, and any fees or commissions paid.
This information will be needed when calculating your gains or losses for tax purposes.
The Future of Cryptocurrency Taxation
As cryptocurrency becomes more mainstream, it is likely that tax laws and regulations will continue to evolve.
This is particularly true in light of the current lack of certainty around regulation, with more and more frameworks laid out with greater clarity in future.
In 2023, we can expect to see more guidance from tax authorities around the world on how to properly report cryptocurrency gains and losses.
We may also see changes to the tax rates for crypto gains, as well as new reporting requirements for crypto investors.
Tools and Software for Calculating Crypto Taxes
Understandably, most people aren't exactly thrilled at the prospect of filling out their crypto tax returns.
Thankfully, there are a number of different tools and software programs out there to help you calculate your crypto taxes, saving you tax attorney fees while you're at it.
Tools such as these can help you keep track of your transactions, calculate your gains or losses, and generate tax reports in a much simpler and more time-efficient manner, in some cases plugging directly into crypto exchanges to gather the information required to accurately calculate tax figures.
Examples of popular tools and software programs include CoinTracking, CryptoTrader.Tax, and Accointing.
These programs can be a great help when it comes to staying organized and compliant with crypto taxation laws and alleviating some of the burden and overwhelm you may understandably feel at the prospect.
Importance of Staying Compliant with Crypto Taxation
Cryptocurrency taxation is an integral and unavoidable part of investing in crypto - failing to correctly report your taxes is an offence after all and may land you in serious hot water with the authorities through fines and/or penalties.
It's not just about remembering to report them, though. It's important to understand the nuances around short-term and long-term gains, as well as common mistakes to avoid when paying crypto taxes.
As the world of cryptocurrency continues to evolve, so tax laws and regulations will change, too. Make sure you stay on top of all any developments so you stay compliant and if needed, harness the tools and software available to make the process easier and more accurate.
That way, you can ensure you're always able to invest in cryptocurrency with confidence.
Benedict Clark
Benedict Clark