Due to the rise of digital currencies, such as bitcoin, the number of Americans who have invested in them has increased significantly. According to the White House, around 16% of adults have used or traded digital currencies. Some of the most popular platforms for buying and selling cryptocurrencies are Coinbase, BitGo, and Robinhood.
Although it’s legal to buy and sell cryptocurrencies, they are also subject to taxation. According to TurboTax, the number of people who used the platform for transactions involving cryptocurrencies more than doubled from 2019 to 2020.
According to Andrew King, a financial advisor at Goldman Sachs, the IRS is cracking down on underreporting of cryptocurrencies. He noted that due to the increasing number of people using digital currencies, the agency is more likely to hear from investors who don’t pay taxes. Understanding how cryptocurrencies are taxed can help investors make informed decisions. Keep reading for some basic info on how cryptocurrency is taxed.
Is Cryptocurrency Always Taxed?
There are various ways people can use cryptocurrencies. However, some of these activities are not considered taxable. Here are the kinds of transactions that are considered taxable.
Selling Crypto
Like stock investors, individuals who make money from cryptocurrencies are required to pay taxes. The IRS considers the assets of cryptocurrencies as capital gains.
Depending on the amount of profit that you made from selling cryptocurrencies, and the length of time that you owned them, you might be required to pay taxes on both short- and long-term capital gains. For instance, if you made a profit from selling cryptocurrencies for less than a year, you might be required to pay taxes on both short- and long-term capital gains.
If you sell cryptocurrencies at a loss, then you can take advantage of this loss and reduce the amount of capital gains that you’re required to pay.
Mining Income
Aside from investing in cryptocurrencies, some people also earn by mining. This activity involves mining new coins using computers. Miners are paid with the new digital currency that they create.
Miners are taxed like other individuals. They should report their earnings from mining on a tax form that’s sent out after they receive the cryptocurrency.
Staking Rewards
Staking is a type of investment that allows people to earn passive income from their cryptocurrency. Unlike mining, staking involves participating in a process called proof-of-stake. As with mining, participating in staking is voluntary, and rewards are taxed.
Airdrops
An airdrop is a type of marketing campaign that involves giving away free digital currency to people. This activity is considered taxable income, and it’s usually included in your tax returns.
Using Crypto for Goods and Services
Many retailers allow customers to spend their cryptocurrency on goods and services. However, since the IRS considers cryptocurrencies as property, they’re required to pay taxes on their appreciation.
If you’re planning on using cryptocurrencies to purchase something, make sure that you report any gains or losses related to the transaction on your tax return.
Currency Exchanges
Before you can exchange one cryptocurrency for another, you’ll need to sell that first one, and if you gain profit from the sale you’ll need to pay taxes on the exchange. The value of the cryptocurrency that you’re holding should be adjusted for both its current market value and the one that you’re giving up.