Chapter 03
How To Report Your Virtual Currency Earnings
Individuals earning more than $600 in staking or rewards are required by the IRS to report the earnings and send in Form 1099-MISC.
As is the case with all other forms of income, it is the duty of the taxpayer to report virtual currency earnings. You will need to utilize several tax forms to properly report your virtual currency earnings.
These include, but are not limited to:
- Form 1040, U.S. Individual Income Tax Return. The IRS recently amended Form 1040 and now requires ALL taxpayers to answer whether they have completed ANY virtual currency transactions during the respective tax year.
- Form 1040-SS, U.S. Self Employment Tax Return. This form is (primarily) to be completed by cryptocurrency miners and NFT creators, who earned income through the sale of cryptocurrency or NFT creations.
- Form 1040-Schedule C, Profit or Loss from Business. This form is to be used by NFT creators, where they have the opportunity to include business expenses and production costs.
- Form 1040-Schedule D, Capital Gains and Losses. Taxpayers must summarize their gains and losses through this form.
- Form 8949, Sales and Other Dispositions of Capital Gains. Form 8949 requires an in-depth explanation of the taxpayers gains and losses that were reported in Form 1040-Schedule D.
Although much of the virtual currency world is decentralized, it is important to note that trading platforms and peer-to-peer exchanges are still considered businesses and must abide by the Internal Revenue Code for taxation purposes.
The IRS requires that exchanges issue Form 1099-MISC to individuals who have earned more than $600 in staking or rewards.
Some cryptocurrency currency exchanges, such as Coinbase, will send Form 1099-MISC to users. Not all exchanges issue Form 1099-MISC: although they should be issuing FORM-1099 MISC, their failure to do so may be for several reasons, including poor corporate management.
You are still required to report your cryptocurrency income, even if your exchange does not issue a Form 1099-MISC.
Exchanges will only send Form 1099-MISC if the user earned more than $600 from cryptocurrency transactions. See Internal Revenue Code 6071(c).
Form 1099-MISC is mailed to both the account holder AND the IRS. So, if you’ve received Form 1099-MISC, so has the IRS.
If you don’t receive a 1099-MISC, that does NOT mean you don’t need to report your earnings!
Form 1099-MISC informs the IRS that you’ve been actively trading cryptocurrency and may have transactions other than those reported on the form. This prompts them to check other exchanges and peer-to-peer networks for possible income.
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How are NFTs Taxed?
The IRS has issued guidance towards the treatment of virtual currencies with the intent to target cryptocurrency users and enforce compliance. However, even though NFTs aren’t considered to be virtual currency, they can still be subject to tax liability.
Determining tax liability for NFTs is a two-step process. First, the taxpayer must determine the method by which they profited from their NFT. If the NFT was sold by its creator, the proceeds (sale price minus production and associated costs) are considered income.
If it was sold by an owner, the sale is considered a “transfer of license” and is subject to property tax. A “transfer of license” is a right to use the property in any manner that an owner chooses.
If the disposition of the NFT is subject to property tax, the taxpayer must calculate the length of time for which they possessed the NFT to determine whether they are subject to short-term or long-term capital gains tax. See Internal Revenue Code 1221(a)(3).
Determining Your Earnings Method
If the taxpayer is a creator who earned money (either fiat or convertible) from selling an NFT, their earnings will be considered “income” and taxed as income according to the earning bracket in which their income lies (10% to 37%).
Income earned from selling NFTs is also subject to the self-employment tax (15.3%).
However, by and large, most users who earn profits from NFTs do so by trading or selling NFTs that they own but did not create.
In these instances, much like fungible cryptocurrency, their gains will be subject to the capital gains tax.
Just as simply owning fungible cryptocurrency isn’t a “taxable event”, simply owning an NFT also isn’t considered a taxable event. Common taxable NFT situations include:
- Selling an NFT for cryptocurrency. A sale will usually generate a profit and will thus hold the seller liable for capital gains tax.
- Purchasing an NFT with cryptocurrency. When you purchase an NFT using a cryptocurrency, this constitutes a disposal of the cryptocurrency and will incur a capital gain or loss. Note that is not the same as purchasing an NFT with fiat currency (dollars or euros).
- Trading one NFT for another, if the trade value is greater than or less than what you purchased it for.
For example, if you purchased an NFT for $500, but then traded it for an NFT valued at $700, you would have a capital gain of $200 and would be required to pay taxes on the $200 profit.
Conversely, if you purchased an NFT for $500 but traded it for an NFT worth $300, you sustained a $200 loss. This loss may be used to offset taxes incurred from other cryptocurrency or NFT transactions.
Trading NFTs of equal value does not constitute a taxable event.
Earning royalties or commissions from the sale or use of an NFT.
The following scenarios do NOT constitute taxable events and are NOT required to be reported as capital gains or losses:
Purchasing an NFT with fiat currency. As you may remember, simply owning an NFT does not impose tax liability.
Purchasing an NFT with fiat currency (which is most likely income that you’ve already paid taxes on) does not require you to pay a capital gains tax.
Selling an NFT for payment in fiat currency. If you’re a creator and you’re selling your creations for fiat currency in lieu of payment in cryptocurrency, you’re not required to pay capital gains tax.
You will however, need to report your income as self-employment and pay the appropriate self-employment tax.
Trading NFTs of equal value does not constitute a taxable event. The trade of an NFT of equal value does not equate to a capital gain or loss and thus does not need to be reported.
Is the Sale Subject to Short-Term or Long-Term Capital Gains Tax?
Much like fungible cryptocurrency, NFT capital gains tax rates will be determined by calculating how long the NFT 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 the NFT was held for longer than one year, it will be subject to long-term capital gains tax rates.
Thank you in advance for reading “The Ultimate Guide to Bitcoin, NFTs and Virtual Currency Taxation.” It was a labor of love and our law firm welcomes all questions, comments, concerns, and feedback that you may have about this free resource.
