This article is part of TokenTax's Cryptocurrency Tax Guide.
Bitcoin and all other cryptocurrencies are subject to the same Internal Revenue Service (IRS) tax laws as capital assets, such as real estate and equity shares. This means you need to follow Publication 551, Basis of Assets and Publication 544, Sales and Other Dispositions of Assets. According to IRS guidance, taxable events need to be reported on the Form 8949 for capital gains or losses, as well as via a disclosure check box on Form 1040.
The IRS provided resources on crypto tax laws in 2014 and again in 2019, detailing the more nuanced topics as summarized below:
Salary in crypto is reported as income when received and capital gains when sold or used to purchase goods and services
Like when you are paid salary in fiat currency, your crypto salary is taxed as ordinary income. This is similar to earning stock from your company when they go through an Initial Public Offering. There are the same considerations for independent contract crypto employees as with fiat currency independent contractors.
However, if you earn income in crypto, and then use it to pay your rent the next month, you are taxed on the short term capital gains between the time you earned it and the time you divested it.
Likewise, if you hold these earnings as savings for over a year before exchanging them for another crypto or selling them for fiat, you will be taxed on the long term capital gains or losses.
Crypto mining and staking is reported as income when received
The same as for your crypto salary, crypto mining income is considered ordinary income for tax purposes. The IRS tax laws also treat staking of your digital currency as ordinary income. Once you sell the cryptocurrency you have mined or earned through staking, you will be taxed on your capital gains and losses. You need to disclose these capital gains as short or long term depending on if you held the crypto for less than a year or more.
The tax law treats your mining as income and any holdings as assets. For example, if you mined bitcoin and subsequently traded it for litecoin the next quarter, your transactions would be taxed as income for the initial mined bitcoin. They would also be taxed as assets for the short term capital gain or loss resulting from the litecoin purchases.
Forks and airdrops are treated as income earned
When you earn crypto through airdrops and forks, the tax law treat this as ordinary income, consistent with staking and mining activities. Similar to staking, your earnings from these events are subject to capital gains and losses based on your hold duration before you divest them.
For example, if you subsequently traded the crypto you received through an airdrop, you would be taxed on the capital gains from these transactions following the tax laws for divesting assets.
Gifts and charitable contributions of crypto are subject to the same tax rules as equity shares
Your crypto donations are deducted as the fair market asset value at the time of sale for long term holdings. If you held the crypto for less than a year before selling it, your deduction depends on the cost basis value for short term holdings before donation. If the asset gained value, your donation deduction is the original purchase price; if the assets lost value, your donation deduction is the value at the time of disposition.
The IRS elaborates that “you will not recognize income, gain, or loss from the donation.” For more information, IRS Publication 526, Charitable Contributions is the relevant law governing crypto donations and all donations of assets. For donations over the USD $5,000 property valuation maximum, Publication 561, Determining the Value of Donated Property explains the necessary appraisal documentation and tax forms for reporting.
Similarly, gifts of crypto are subject to the same tax laws as other asset classes. It is important to provide the recipient of your gift with the cost basis at which you purchased the crypto for their tax records. The way the crypto gift tax law is written, they will need to take into account your cost basis for the capital gain on their gift when they sell it.
Loss of transaction history can be back-filled carefully with other documentation
Buying and selling cryptocurrency is typically easy to document by downloading your historical transactions from exchanges. Unfortunately if you have traded on exchanges the past few years, you are likely well aware that exchanges occasionally shut down and do not provide ways for you to retrieve your data.
Fortunately, the tax laws detail the extent of crypto trade documentation required for your tax return. These records include “receipts, sales, exchanges, or other dispositions of virtual currency and the fair market value of the virtual currency.” If you lost data from an exchange closure, you can use email confirmations of transactions and saved screenshots for your documentation to back-fill your missing information.
Specific identification of your tax lots and cost basis to minimize your tax liability is allowed
If you are diligently tracking your tax lots, the most recent tax laws clarify that you can use minimization or specific identification accounting methods. This technique is frequently used by traders across asset classes in order to optimize their capital gains and losses, and thereby reduce their tax liability for the year and/or offset gains to future years.
A related technique is tax loss harvesting at the end of the tax year in order to sell off strategic tax lots. This method allows you to realize losses in order to reduce your tax liability for the following tax year. The tax laws allow you to use these techniques for your crypto transactions the same as you would for your stock trades.
Crypto held in IRA accounts are subject to the same tax laws as any other IRA investments
As true of any stocks, commodities, property investments and other assets, you can place your crypto in a regular or Roth individual retirement account. The tax laws treat capital gains from IRA crypto investments as pre- or post-tax the same as any other retirement investment. There are a few popular self-directed crypto IRA services available that help facilitate you including cryptocurrency in your retirement account adhering to the tax laws.
The value of crypto that is not publicly traded is considered to be the sale price
It is important to note that if you receive crypto that is not publicly traded with a public market value, you will not have a documented cost basis. The IRS issued guidance that the fair market value of this cryptocurrency will be the price at which you sell it.
Amend your previous taxes if necessary
Under the current tax laws, you need to report your crypto sales and should amend your tax returns from previous tax years if you have not reported your sales in the past. We recommend that you comply and pay taxes on your crypto, especially if you have received a letter from the IRS.