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April 22, 2022

Ledgible's Cryptocurrency Tax Guide for Professionals, Accountants, & Institutions

Understanding cryptocurrency

Cryptocurrency is a digital currency that does not exist in physical form. Unlike cash, such as US Dollars or Euro, it is exclusively digital and thus lacks any real bills or coins. In 2008, a pseudonymous individual (or individuals) known as Satoshi Nakamoto created Bitcoin, the first mainstream cryptocurrency. Thousands of cryptocurrencies have emerged since then, including Ether, Monero, Zcash, and more.

Another advantage of Bitcoin over other forms of money is that it is entirely electronic, unlike all other types of money. Satoshi defined how the decentralized protocol functioned in the Bitcoin whitepaper without requiring any governments, central banks, or financial institutions.

Is cryptocurrency taxed and how?

Yes, in most cases. Cryptocurrency transactions are taxed in most countries, including the United States, the United Kingdom, Canada, Australia, and many others.

In most nations, as the US does, cryptocurrencies are taxed as property. As a result, if the asset appreciates in value and you sell/trade/use it for profit, you'll have to pay tax on the profits. You can deduct the losses against other capital gains if the asset depreciates in value and you sell/trade/use it at a loss.

The tax rate for cryptocurrencies is determined by the amount of capital gain/loss on the asset, how long you've held it, and your nation's/jurisdiction's specific regulations. Since each taxable event might lead to a capital gain, you must keep track of the date, cost basis, sale value, and any fees associated with each transaction along with many other factors in the process to ensure proper filing.

The following are generally accepted to be taxable events with cryptocurrency:

  • Selling cryptocurrency for fiat currency
  • Selling cryptocurrency for another cryptocurrency
  • Using cryptocurrency to purchase goods or services
  • Converting one cryptocurrency to another

The following are generally accepted as not being a taxable event with cryptocurrency:

  • Buying cryptocurrency
  • Gifting cryptocurrency
  • Donating cryptocurrency to a charity
  • Transferring cryptocurrency from one wallet/address to another, including to cold storage

How big is the cryptocurrency tax market?

Recent studies and surveys have found that 59 million Americans own some form of cryptocurrency, a number that continues to grow by the day. Cryptocurrency is essentially a digital currency that is created (often through something called mining) tracked, and traded on the blockchain, which is essentially a decentralized digital ledger. Explained in even higher level terms, cryptocurrency is a novel way of thinking about financial security and transactions, something that can complicate the tax and accounting proceedings that follow.

Because the modern tax and accounting market wasn't built with cryptocurrency in mind, and much of cryptocurrency functions in means that are unique to it as an asset class, making cryptocurrency and digital currencies fit into the traditional tax and accounting box can be a little like shoving a square-shaped block through a round hole. That is, when tax preparers and accountants aren't equipped with the right software tools to translate digital assets into traditional finance terms.

What the crypto tax & accounting space looks like

As digital assets and associated blockchain technologies evolve at a rapid pace - the speed of the internet - by necessity, the tax and accounting solutions designed for the space need to as well. The IRS's guidance on how to properly manage cryptocurrencies in the tax preparation process has been few and far between, but there does exist enough guidance to be able to properly account for and tax all of you or your clients' digital assets.

One thing that is unique to cryptocurrencies is that a variety of different types of transactions exist, all of which can be uniquely taxable. For example, while many may believe that cryptocurrencies are only taxed when digital assets are sold for fiat currency, like the US, this actually isn't the case. Digital assets can be taxed simple when they are transferred or exchanged for other cryptocurrencies, complicating matters for professionals that may be unaware of the landscape even further.

Under the United States' existing guidance, cryptocurrency is treated as "property," meaning that many of the rules that applied to stocks also apply to cryptocurrencies. Cryptocurrency and other digital assets can incur capital gains taxes, and there's also something known as "staking" meaning that certain cryptocurrency holders can receive a form of payment for holding their crypto on a certain platform. While technically different, in terms of taxation, this is often treated like interest on a bank account, meaning that it's also taxable revenue.

The same strategies to minimize tax burdens that exist in traditional finance also exist in the cryptocurrency space. For example, crypto holders and users might hold on long enough to get a better capital gains rate for their taxes, and they might also use any losses from crypto to offset capital gains taxes on their stocks and other assets.

All this is probably starting to make sense to you, but there's another problem: due to the decentralized nature of crypto, and the hundreds of platforms, exchanges, wallets, and more the industry encapsulates, taxpayers often don't receive 1099s or necessary paperwork to properly account for and calculate taxes on their crypto.

Understanding how cryptocurrency is taxed

When you buy cryptocurrencies from an exchange, they're classified as being on hand. When you sell them to someone else, they're considered to be on sale. This means that you pay taxes on the transaction, but not when it's sitting in your account. If a cryptocurrency gets mined, the person who did the mining will have to report it on their taxes whether they sell it or not.

As far as gains are concerned on the cryptocurrencies or digital assets you do sell, the IRS in the United States recognizes cryptocurrency as property, not currency.

The general rule of thumb is that when you sell or use cryptocurrency to do something (exchange it for goods and services, use it to pay for a good or service) you will incur the capital gains tax.
When you buy something with cryptocurrency, you are trading one type of virtual money for another-not purchasing goods or services. You must report this on your taxes as a sale, so it's considered income.

It's also possible to be taxed twice on selling your bitcoin if you also spend them on goods and services-once when they're converted into dollars and again when they're spent at a retailer.

When can you get started on crypto taxes?

So, because of the decentralized nature of cryptocurrency and its non-standard financial attributes, crypto data is available to taxpayers and professionals starting on January 1st. This is a huge benefit for anyone looking to get a head start on their upcoming tax return.

But, does getting a head start mean sifting through thousands of decentralized transactions on the blockchain? Well, it could if you don't have the proper cryptocurrency tax and reporting software at your disposal. Ledgible Crypto Tax Pro is the professional solution for crypto taxes, preferred by tax pros and heavily utilized by direct filers alike. With a few simple integrations of different accounts, Ledgible Crypto Tax Pro can ingest all of your crypto data and develop the necessary tax reporting documents quite quickly. Thanks to Ledgible's partnership with major tax and accounting firms, the tool will automatically integrate with your tax software to easily assimilate your crypto tax documentation into your standard overall personal or business tax return.

Overcoming the tax hurdles for tax preparers

As a tax preparer, there are two things you need to prepare for:

  1. Getting the right information and communication from your clients
  2. Managing that information in the tax preparation process

Some common questions you can ask clients are:

  • Do you currently hold, own, or trade cryptocurrency?
  • Have you at any point in the past acquired, or traded cryptocurrency?
  • Have you ever exchanged cryptocurrency for another or used it for payment for a good or service?
  • Have you ever sold cryptocurrency in exchange for cash, like USD?
  • Have you ever received crypto as a gift?

These questions will get you started, and in all likelihood, if your client's answer is anything other than no to any of these, then you need to be thinking about preparation bullet number two: how to manage their cryptocurrency taxes. While some tax and accounting firms provide services to clients hourly and offer boutique solutions, the cryptocurrency space has matured to the point where mass-market professional software solutions are available to the everyday tax preparer.

For example, the Ledgible Platform, comprised for Ledgible Crypto Tax Pro for tax preparers and Ledgible Enterprise Accounting for business accounting, offers easily integrate-able solutions for professionals. If you're a tax professional, tax preparer, or CPA, Ledgible Crypto Tax pro can provide automated reporting, client management, and calculate the necessary capital gains, cost basis, and other necessary figures to file taxes on all sorts of cryptocurrencies. In essence, Ledgible Crypto Tax Pro makes cryptocurrencies and digital assets, like NFTs, legible.

The best part is that signing up for Ledgible Crypto Tax Pro is completely free for tax professionals, and there are flexible billing models that allow for preparers to never have to pay a dime to use the solution. If you're interested in getting started with your Ledgible Crypto Tax Pro account or seeing what the Ledgible Platform can offer, you can learn more here.

What are the Capital Gains tax rates?

Since crypto gains are taxed at the standard capital gains tax rates, how much can you be expected to pay? The IRS has a variety of tax rates for different types of capital gains. Short-term capital gains are taxed as regular income, which can be as high as 39.6%. If the asset is sold after being owned for over one year, then the long-term capital gains rate is applied. This ranges from 0% to 20% based on the amount sold. There are also other factors that affect this rate such as whether any dividends were received from owning the stock.

However, if you don't want to pay capital gains on your cryptocurrencies, then you can also offset your gains by harvesting your losses. For losses on cryptocurrency, you can subtract them from your gains directly. So, if you made $20,000 on the sale of one type of cryptocurrency, but lost $20,000 on another, your net capital gains would be $0, meaning you wouldn't owe any taxes on that particular set of investments.

Are there any other special scenarios?

There may be some special things to consider when determining your cryptocurrency tax burden. All of these scenarios can be complex and confusing to the untrained eye. Luckily, the Ledgible Crypto Tax Platform offers up a fully integrated, independently audited crypto tax software solution for both crypto traders and professional tax advisors so you don't miss anything in the crypto tax process.

How do I calculate my taxes?

Now, it's time to calculate your taxes. Calculating your cryptocurrency taxes for 2031 is tricky because the industry is so young and the IRS has yet to release many official guidelines. You have two choices here, you can use an automated service or you can do it manually.

With cryptocurrency, manually filing your taxes on the thousands of non-standard transactions, transfers, trades, and more can become a headache quite quickly. Your best bet is to use an automated crypto tax service to get started. Luckily, Ledgible has you covered, and you can get started calculating (and minimizing) your tax bill without spending a dime.

How can I reduce my cryptocurrency taxes?

You can reduce your taxes by generally being smart about which trades you make and when. Since the IRS recognizes crypto and all related transactions as buying and selling of property, nearly every time you trade, sell, or purchase something with crypto, it's considered a taxable transaction - and you need to calculate your gains and losses each time.

Reducing your tax bill means being smart about which transactions you make. Generally speaking, you can reduce not only your crypto tax bill, but also your overall tax bill, by selling any cryptocurrency you currently own at a loss in the fiscal year you're trying to reduce taxes for. Your crypto losses will help draw down your overall tax bill, lowering your taxes. While day-trading cryptocurrency can be fun, when you make a lot of money, it ends up being a lot of transactions you have to pay taxes on.

Essentially, minimizing your cryptocurrency tax bill means strategically selling certain currencies that you may own at a loss so you can "book" the loss against your tax bill. And don't worry, if you still want to own them, you can just buy back in later.

The IRS's perspective on crypto

Now, despite the fact that there were some earlier indications that the IRS would be less harsh on cryptocurrencies than they originally expected, their new guidance on taxing cryptocurrencies is even more strict than originally planned.

If you are a US citizen, then it's important to report your cryptocurrency gains to the IRS - but how? Well, here are some things you need to know about what you have to report and how much your cryptocurrency investments could come back to haunt you.

So report now or regret later.

When it comes to popular cryptocurrencies are the tax reporting guidelines any different? Bitcoin, Dogecoin, Ethereum, is paying taxes on these cryptocurrencies all the same?

How paying taxes on Bitcoin, Ethereum, and Dogecoin works

The answer is yes and no.

Bitcoin (BTC) and other cryptocurrencies like Ethereum (ETH) are reportable, but there are different rules for each cryptocurrency. The rules for reporting taxes on Bitcoin (BTC) aren't notably different than the ones for Dogecoin (DOGE).

The report you submit to the IRS will be broken down by type of transaction, so you should report each type of transaction separately.

If you have a taxable event with a coin, report it. If you bought any coins or got them as income, report it. If you swapped one cryptocurrency for another, report the transaction.

Transactions must be reported to the IRS on form 8949 and gains/losses from those are taxed at normal capital gains rates. Similarly, if you have significant losses from cryptocurrencies, report it and the loss could offset gains.

Coinbase is one of the most popular ways to buy and sell cryptocurrencies like Bitcoin (BTC) . There are thousands of others around the world, though, but many report similar issues when filing with the IRS about accurately reporting the tax owed on cryptocurrencies. Many users of cryptocurrencies use many ledgers, wallets, exchanges and more, complicating the tax reporting process even further. When you swap and exchange cryptocurrency through all of these different tools, you can incur a number of different taxable events on the same cryptocurrency holdings.

Taxes on NFTs

But what if you have bought an NFT? How is that taxed? NFTs are unique to traditional cryptocurrency because while they can be traded and sold, they cannot be mined while cryptocurrencies like Bitcoin and Ethereum can. NFTs are created by a company and assigned to individuals for them to keep or sell on secondary markets. While some report them as property because of how much they can be worth, others report them as securities because of their financial nature.

Because of all of the complexities that surround cryptocurrencies, it's best to utilize a crypto tax software when you arrive at tax season. The software automatically does the hard work and reports your profits and losses while also doing the necessary calculations.

When you mix NFTs, wallets, ledgers, exchanges, different cryptocurrencies like Ethereum, Dogecoin, and others all together, you get a complex tax situation come tax season. Cryptocurrency taxes aren't as straightforward and simple as some may think. A report even showed that out of all the crypto investors in the US, a small percentage of them reports their taxes each year--meaning they almost never report it at all. This is going to change as the IRS cracks down on crypto users, even enacting rules that require reporting on past cryptocurrency transactions that weren't reported.

How to File Cryptocurrency Taxes

If you're a tax professional or just filing your taxes yourself, one of the best software solutions for crypto taxes is Ledgible. The Ledgible Platform was built specifically for cryptocurrency users and professional CPAs to report crypto taxes.

With Ledgible, you can report all of your purchases on every cryptocurrency wallet you have, including Bitcoin, Dogecoin, Ethereum, etc. If you want to learn more about Ledgible and get started for free, click here.

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