Cryptocurrency is a unique form of the digital asset that has captured the popular imagination in the past decade. Bitcoin, a type of cryptocurrency, remains a buzzword across the globe from the time of its launch in 2009. Cryptocurrency is the innovation resulting from the modernized BlockChain Technology.

Over the recent times, there has been a substantial surge in the number of Virtual Currency users. Virtual currencies such as cryptocurrency are a coveted way for many affluent people to park their money, especially in advanced economies like the USA. That’s why, the Government Departments smell the possibility of tax evasion among Crypto users.

Since the past few years, Cryptocurrency transactions are increasingly on the radar of the government authorities, including the IRS. One needs to be mindful of reporting his Cryptocurrency transactions for Tax Purposes. Since 2014, IRS has enacted a series of regulations to bring various assessments dealing in cryptocurrency transactions under the tax bracket.

IRS remains highly vigilant towards virtual currency transactions in 2020!

Many are aware of the warning letters IRS sent in 2019 to cryptocurrency owners suspected of non-disclosure of their dealings, calling for the amendment of their income tax returns and payment of their tax dues. The IRS sent around 10,000 such letters to the different crypto owners in the US.

There is a mechanism to keep a tab on reportable virtual currency transactions with the IRS Information Reporting Program. IRS can know if any person receives forms 1099-K or 1099-B from a cryptocurrency exchange. 2020 needs better practices.

What is virtual currency?

A virtual currency, also called virtual money is a type of digitalized currency controlled by a group of members, who are usually a part of a particular virtual community. It is a digital representation of monetary value that any centralized banking authority does not issue, and that is not related to any fiat currency. However, legal persons grant acceptance to it as a unit of account for the store of value. People can electronically store, transfer, and trade virtual currency.

What is a cryptocurrency?

A cryptocurrency is a form of virtual currency that acts as a medium of exchange. The transactions related to cryptocurrency get recorded in electronic form on a distributed ledger system called the blockchain. The cryptography technique uses to secure cryptography transactions. There are two types of cryptocurrency transactions; the on-chain and the off-chain. Those with records on the blockchain system are on-chain transactions, while those not recorded on the blockchain are the off-chain transactions.

What is the tax treatment for Virtual Currency Transactions as per IRS?

For the applicability of federal taxes, virtual currency is an assessee’s property. Hence, the general principles of taxing property transactions apply to virtual currency transactions.

Tax liability may arise on virtual currency transactions such as:

  • On Sale or exchange of virtual currencies
  • On the use of virtual currency to make payments for goods and services
  • On holding virtual currency transactions as an investment

The tax estimation is similar to the capital gain taxes. Based on the period of holding of the asset, there is an obligation for short-term or long-term capital gain.

How do cryptocurrency transactions trigger a taxable event?

As we know, cryptocurrency falls under the broad definition of virtual currency. The federal tax laws will recognize cryptocurrency as property or capital asset. Therefore, any selling or exchange of cryptocurrency can lead to a taxable event. As per Notice 2014-21, cryptocurrency is like any other capital asset sold or bought during the year.

Tax is applicable on cryptocurrency transactions when a taxable event occurs.

Instances of taxable events for cryptocurrency

  • Selling of cryptocurrency for cash or
  • Exchanging one type of cryptocurrency for another form cryptocurrency or
  • Buying one form cryptocurrency using another form of cryptocurrency

In the Sale of cryptocurrency transactions, the tax applies to the difference between the sale price and the adjusted cost of acquisition.

With effect from 1 January 2018, the exchange of cryptocurrencies is also subject to tax. A capital gain or loss depends on the difference in exchange date between the fair market value of the crypto asset and the adjusted cost of the other crypto asset.

In the case of mining of cryptocurrency, crypto miners have to report mining earnings exceeding $400 to the IRS.

Which cryptocurrency transactions do not attract tax liability?

Buying of cryptocurrency does not result in a taxable event. IRS has stated specific cryptocurrency transactions which do not lead to tax liabilities:

  • Donation of cryptocurrencies to a non-profit or charitable organization which enjoy tax exemption
  • Buying cryptocurrency using fiat money
  • Transfer of cryptocurrency between online wallets
  • Gifting cryptocurrency to a third party

Where do you report Cryptocurrency Transactions in the Income Tax Return?

Every US taxpayer has to report cryptocurrency transactions, which are taxable as per federal laws on their tax return. A taxpayer has to use specific schedules available in tax returns for reporting of cryptocurrency transactions.

Schedule C, Schedule D, and Schedule E are the general schedules used for reporting different types of cryptocurrency transactions in the US.

Schedule D is perhaps, the most commonly used schedule for disclosure of taxable cryptocurrency transactions. Taxpayers use Schedule D to report Sale, exchange, or disposal of cryptocurrencies like Ether or Bitcoin. One also needs to mention in Schedule D, the use of cryptocurrency to pay for goods or services.

What are the base documents used to report transactions in Schedule D?

One should duly conduct virtual currency record-keeping. Cryptocurrencies get traded on exchanges through different brokers and intermediaries. None of these parties have an obligation to provide relevant tax reports, such as Form 1099, to their clients. However, traders are liable to the IRS for complete disclosure of the market participants’ necessary transaction details. Non-compliance with the disclosure requirement can lead to charges of tax evasion.

What is the way to conduct cross-verification of Cryptocurrency Transactions and Holdings?

As per IRS guidelines and the Internal Revenue Code regulations, taxpayers need to maintain records to support the disclosures made in the tax returns. Hence, the US taxpayer should maintain necessary files like documents of sales, exchanges, receipt, and dispositions related to the cryptocurrency transactions and its valuation.

What are the consequences applicable in case of failure to report taxable Cryptocurrency Transactions?

There should be no failure in reporting any taxable cryptocurrency transactions. In the face of any inaccurate reporting of such transactions on the federal tax return, IRS may impose civil and criminal liabilities. Usually, IRS sends out Letters 6173, 6174, or 6174-A. These letters urge individuals to comply with the disclosure of their cryptocurrency income properly. If any assessee receives these letters, he must undertake the required amended actions as soon as possible.

How can Initor Global assist you in ensuring better compliance with tax provisions applicable for Cryptocurrency Transactions?

Initor Global remains on the top of all tax amendments IRS releases from time to time. We can help you with fool-proof tax planning and tax filing procedures. Our skilled team assists business entities in complex matters like cryptocurrency taxation. Avail of our Tax Outsourcing Services and be cognizant about all essential IRS updates and adhere to your Cryptocurrency Transactions reporting requirements with Initor Global! Contact now!

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