Tax on Virtual Currencies – How the IRS is handling crypto transactions
For the first time, the individual tax return will have a designated area for cryptocurrency ownership. The 2019 Form 1040 will now include a checkbox on Schedule 1 which asks, “At any time during 2019, did you receive, sell, send, exchange, or otherwise acquire any financial interest in virtual currency?” The IRS also released an authoritative revenue ruling in October to address a couple specific scenarios (hard forks and airdrops) as well as publishing frequently asked questions regarding many other common issues the owners of virtual currencies have com across. The takeaway from these updates is the IRS knows about crypto transactions, and they are now expecting to see transactions reported on tax returns.
How is Income Handled?
An important item addressed is the treatment of virtual currencies. For federal tax purposes, virtual currency is considered “property”, which means the way an individual utilizes their holdings will factor into the taxability. For example, if you are paid for services performed with a cryptocurrency, the income should be equal to the fair market value (FMV) of the coin when received and should be reported as ordinary business income in US dollars. On the flip side, if the virtual currency is being used in the normal course of business to pay for goods or services, then the expense paid is equal to the FMV at the time of the payment. Other business items such as treatment of income as self-employment and reporting payments to vendors on the 1099-MISC form apply the same way as if transacted with real currency.
For individuals, virtual currencies are typically treated as capital assets subject to the same capital gain/loss rules. A sale is triggered by either exchanging the coin for real currency or for other property. Whether there is a gain or loss depends on the FMV of real currency or property received compared to the basis when acquired. As with other capital assets, the cost basis includes all amounts spent to acquire the currency, including fees and commissions. Short-term (less than one year) vs long-term (greater than or equal to one year) treatment is also the same as other capital assets.
The IRS will continue to monitor and regulate crypto and virtual currency. So far, all rulings have been retroactive, so there is no protection against misreporting transactions in prior years. The best course of action is to amend past returns to correct any errors or nonreporting. Going forward, diligent record keeping will need to show detailed and consistent approaches for the valuations.
If you want more information on cryptocurrencies or need help with tax preparation, contact our tax professionals at The Innovative CPA Group at 203-489-0612. Or contact us online.