How Much Do I Owe in Taxes?
Virtual currency is subject to capital gains tax. A capital gains tax is a tax that is assessed on the sale of an asset, such as a house, stocks and bonds, or virtual currency.
When you sell an asset, the difference between its sale price and its original purchase price is known as a “capital gain” or a “capital loss.”
If the difference is positive, meaning you sold an asset for more than you purchased it for, it is a capital gain. If the difference is negative, meaning you sold an asset for less than its purchase price, it is considered a capital loss.
There are two categories of capital gains:
- short-term, or
If you retain your virtual currency for one year or less before selling or exchanging the virtual currency, you will have a short-term capital gain or loss.
If you retain your virtual currency for more than one year before selling or exchanging it, you will have a long-term capital gain or loss.
The period during which you held the virtual currency, commonly known as the “holding period”, begins on the day after you acquired the virtual currency and ends on the day you sell or exchange the virtual currency. See Internal Revenue Service Topic. No. 409.
Capital gains tax rates will be determined by calculating how long your virtual currency was held for.
If the holding period was less than one year, the sale will be subject to short-term capital gains tax rates. If your virtual currency was held for longer than one year, it will be subject to long-term capital gains tax rates.
It is important to note that cryptocurrency exchanges DO NOT have the ability to properly calculate your capital gains or losses, primarily because many users utilize more than one exchange.
To properly calculate your gains and losses, it is imperative that you develop your own tracking method.
Additionally, when you transfer cryptocurrency into or out of an exchange, that particular exchange loses the ability to provide you with an accurate report detailing the cost basis and fair market value of your cryptocurrencies, both of which are mandatory components for tax reporting.
Taxpayers who mine cryptocurrency as a trade or profession must report their earnings as self-employment income AND pay the respective self-employment income tax.
However, miners may deduct reasonable expenses, such as equipment and internet expenditures, to offset their tax liability. See Internal Revenue Service Notice 2014-21
Occasionally, cryptocurrency will undergo something known as a “hard fork” or “airdrop.” A hard fork occurs when a cryptocurrency undergoes a protocol change resulting in a permanent diversion from the original distributed ledger.
This may result in the creation of a new cryptocurrency on a new distributed ledger in addition to the legacy cryptocurrency on the legacy distributed ledger, much like how one embryo can sometimes separate into two.
If your cryptocurrency went through a hard fork, but you did not receive any new cryptocurrency, you don’t have taxable income. Id.
An “airdrop” is a transfer of cryptocurrency into user wallets, usually for bare-minimum rates or for free. Airdrops are often sent out to random cryptocurrency wallet holders as a means of attracting followers, gaining internet popularity, or advertisement.
It is entirely possible that you may wake up one day having received an airdrop.
Cryptocurrency received from an airdrop is taxed as income. The recipient will incur tax liability on fair market value of the airdrop.
If you sell, trade, or otherwise dispose of your airdropped coins in the future, you will incur capital gains or losses depending on how much you sell your cryptocurrency for.
When you receive cryptocurrency from an airdrop following a hard fork, you will have ordinary income equal to the fair market value of the new cryptocurrency when it is received.
You will have taxable income in the tax year you receive that cryptocurrency.