Capital gains on crypto transactions are easy to track, one at a time. What about when there are thousands?
Cryptocurrency capital gains taxes are becoming a point of interest for governments. In 2017, which will likely come to be known as the year crypto went mainstream, the combined market cap for all cryptocurrencies rocketed up from 15 billion to over 600 billion dollars. This kind of growth is hard to ignore — not just for the day traders and blockchain evangelists but for governments as well. This article focuses on how the United States specifically approaches crypto taxation.
Don Fort, the chief of the IRS criminal investigation unit, speaking on a recent tax conference panel, discussed at length how “cryptocurrency is becoming a new area of enforcement for him.” Other events like the IRS Coinbase Summons and the IRS warning sent to tax filers show the clear intentions of the U.S. government.
Because cryptocurrency is treated as property (not as currency), it is subject to capital gains taxes — just like stocks, bonds, real estate and other forms of personal property. Boiled down, you incur capital gains whenever you sell property for more than you purchased it for. You then report this gain on your yearly taxes, and that’s the end of it. The same is true for cryptocurrency.
While the intentions of the government are clear — they want you to report your crypto gains — active crypto traders know that the sheer volume that comes with trading crypto brings about a slew of challenges and headaches for tax reporting purposes. Before diving into these challenges, we should break down capital gains.
How Do I Calculate My Cryptocurrency Capital Gains?
Fair Market Value — Cost Basis = Capital Gains
Step 1 — Determine Your Cost Basis
Cost basis is the original value of an asset or, essentially, how much money you put in to acquire that asset. For crypto assets, it includes the purchase price plus all other costs associated with purchasing the cryptocurrency. Other costs typically include things like transaction fees and brokerage commissions from the exchanges where you purchased the crypto. So to calculate your cost basis you would carry out the following:
(Purchase Price of Crypto + Other fees) / Quantity of Holding = Cost Basis
Step 2 — Determine the Fair Market Value at the Time of the Trade
The fair market value is the second data point you need to calculate your capital gains. Fair market value is the value of your cryptocurrency at the time you sold/traded it.
An example would look something like the following: You bought 0.05 Bitcoin for $100 dollars in June of 2017. You paid a $1.49 transaction fee to the exchange that you purchased from. Your cost basis is $101.49 for 0.05 Bitcoin. In November of 2017, you sold that same 0.05 Bitcoin for the fair market value which was $500 at the time. Based on this simple example, you have a capital gain of $398.51 (500 — 101.49).
Here’s where things get much more difficult for the day traders. The IRS states that coin-to-coin trades are also taxable events. This means that when you trade BTC for any other altcoin, you incur a capital gain or capital loss that you have to file on your taxes. I want to lay out one more example to show how a coin-to-coin trading scenario would play out.
Let’s say you purchase $100 worth of bitcoin, including transaction and brokerage fees. That $100 currently buys about 0.01 BTC. Now, let’s say two months later you trade all of your 0.1 BTC for 0.16 ETH. How would you calculate your capital gains for this coin-to-coin trade?
It depends on what the fair market value of bitcoin was at the time of the trade. Let’s say at the time of the trade, 0.01 BTC was worth $160. This would put the fair market value of 0.01 BTC at $160. You would then be able to calculate your capital gains based of this information:
$160 – 100 = $60.00 capital gain
For that crypto-to-crypto trade, you would owe the government a percentage of your $60.00 gain.
The Huge Problem and the Elephant in the Room
It’s no secret that some people are trading crypto a lot. Many simply automate their trading strategies by utilizing crypto bots to trade on their behalf. Some of these folks make thousands and thousands of trades every single month. This sheer volume makes reporting and calculating every single trade for tax purposes virtually impossible. Just think: You need to retroactively look back on every trade you have made and determine what the fair market value in U.S. dollars was at that time of the trade, and then use that to calculate your gain or loss. It’s no wonder that an extremely small number of active traders paid taxes on their crypto activity in 2017.
However, with any problem comes the opportunity to provide a solution, and several companies and services are sprouting up to address this one.
How Do I Actually Report It?
In terms of how to report cryptocurrency on taxes in the United States, you need two specific forms. First, you need to fill out the IRS form 8949, which will detail each crypto trade that you made during the calendar year, as well as the date sold, date acquired, cost basis and capital gain. You then need to total up all of these items to arrive at your total gains and report that number on your 1040 Schedule D.
As always, when in doubt, consult a tax professional who is familiar and has dealt with cryptocurrency.
What Does the Future Look Like?
I think I am preaching to the choir when I say that crypto isn’t going away anytime soon. This is a technology that is going to change the world in ways that we currently cannot even fathom. On the flipside, the tax implications behind it aren’t going away either. When you come to grips with this reality, it is easy to prepare yourself for the future. Come up with a plan, do your research on all of the solutions currently on the marketplace, and prepare now. This will save you time and anxiety once next April rolls around.
Tax talk aside, I am incredibly excited about the future of cryptocurrency and blockchain technology. These are extremely exciting times that we live in; opportunity is right around the corner.
This is a guest post by David Kemmerer; it is for information purposes only and should not be construed as tax or investment advice. Views expressed are his own and do not necessarily reflect those of Bitcoin Magazine or BTC Inc.