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February 23, 2024

Planning Guide For Digital Asset Tax Reporting Requirements

With tax reporting season over, it’s already time to start planning for the next tax reporting season. And with digital asset regulations always either in flux or unclear, starting sooner is better.

Starting with existing obligations for digital asset reporting, there are several 1099 forms that are currently required by the IRS to be filed for various digital asset transactions.

  • Staking on the 1099-MISC: Staking in general, is when someone who holds a token places it in a specific wallet so the token network can use it to support the operations, security, and transactional activity of that network. As a reward for letting the network use their tokens, the token owner gets a reward. 

This reward is generally seen as income. However, it’s not traditional income, it’s “other income” (box 3).  The total income also has to be more than $600. Any income less than $600 does not have to be reported.

If your platform offers staking, you may need to look into providing 1099-MISC forms to your users.

  • Other Income on the 1099-MISC: Many platforms, like Coinbase and Binance, provide users with a 1099-MISC form. The 1099-MISC is the catch all for income. It could be income from staking like mentioned above, but it could also be income from rewards, or platform incentives. However, the 1099-MISC is not used for capital gains or losses. If your platform provides income to to users through rewards, incentives, etc, you may need to look into providing 1099-MISC forms to your users.
  • Payment Settlement on the 1099-K: The 1099-K simply states the total amount traded by an individual for a calendar year. It doesn’t show capital gain or loss, or cost basis, only net proceeds. And generally, it’s only for individuals who traded more than 200 times in the year with a value of over $20,000.

If your platform offers trading, you may need to look into providing 1099-K forms to your users. However, many trading platforms (like Coinbase or Binance) that used to issue 1099-K forms, now issue 1099-MISC forms instead.

  • Capital Gain/Loss on the 1099-B:Most people are familiar with the 1099-B form. The 1099-B form is for proceeds, cost basis, realized short/long term gain/loss. This form is where a lot of information is provided and required.

A 1099-B for is required to be made whenever there is a “B-Record” sale. A “B-Record” sale is when there is a sale of an asset that involves a short term sale, long term sale or uncovered sale. A single sale can be just one B-Record, or it can be all three B-Records. It can be all three B-Records because a single sale can involve varying cost basis for the assets. 

Suppose you buy a token on Jan 1 for $100. Then on March 1st, you buy another of the same token for $80. Then on March 2nd, you sell 1.5 of your two tokens for $70/token. With this one sale you have short term losses (March 1st to 2nd is short term), you have long term losses (Jan 1 to March 2nd is long term), and if the token is not covered (“uncovered” or non-covered), then there are 3 B-Records for that one sale that all have to be reported to the IRS (Go check out our article about wash sale rules since the topic of gain/losses came up).

Additionally, in the above example, the cost basis has to be determined. Depending on your tax methodology, the Jan1 token could have been completely sold with only half of the March1 token. Or the reverse where the whole March1 token was sold and only half the Jan1 token, or perhaps 0.75 of each was sold. Whatever the methodology, that cost basis likely will have to be reported, along with the associated (in this example) loss. These calculations can become very complex very quickly. 

If your platform “enables sales”, then you may need to look into providing 1099-B forms to your users.

  • Loan Interest on the 1099-INT: Cryptocurrency is popular for loans because smart contracts can do a lot of the work including auto-liquidation and collateral verification and tracking (DeFi loans). There are also the more traditional style lonas from centralized finance providers (CeFi loans). As a result, many people borrow/loan digital assets and use digital assets as collateral for loans on other digital assets. If digital assets are loaned to an institution or DeFi protocol and earn at least $10 in interest, a 1099-INT may need to be filed. That means if your platform borrows or enables borrowing of digital assets, you may need to look into providing 1099-INT forms to your loaners. 
  • What is changing with these new tax regulations? There are a few key changes and updates with the new proposed tax regulations. We have a full article here about it here, but the highlights are
  • Broker Definition: In most cases, the IRS has reduced the scope of the definition from the original proposal in the US Infrastructure Act. In broadening the definition, they have expanded what it means to “effect a sale” which goes outside of the traditional view of brokers in the financial services industry. As such, miners, validators, staking pool operators, and those not operating a trade or business will typically be out of scope while decentralized exchanges and DAOs could be in scope if they have control or influence over the protocol to make changes to it. As expected, centralized exchanges remain in scope as a broker.
  • Digital Asset Definition: In scope are crypto currencies, NFTs, stablecoins, tokenized real estate, tokenized securities, and commodities overseen by the CFTC (even if not approved by them). Out of scope are closed loop tokens used in video games, tokenized inventories, and CBDCs.
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