With the rise of virtual currency, it’s imperative that you understand the implications of cryptocurrency in relation to accounting. While cryptocurrency is unique in comparison to “real” or fiat money, it is still a medium of exchange.
If you exchange cryptocurrency, you may have to pay taxes on your gains, depending on your tax situation. Here’s what you need to know about cryptocurrency accounting and tax implications.
As of 2018, there are dozens of cryptocurrencies in circulation, including Bitcoin, Litecoin, and Ethereum — all of which may impact one’s income. Both businesses and individuals use this type of digital currency to complete transactions without the need for a bank or other financial institution.
Digital currencies rely on blockchain technology. There are currently over 1,500 cryptocurrencies, all of which have their own distinct characteristics. This makes accounting for cryptocurrency challenging, especially if you’re not sure whether your cryptocurrency qualifies as an asset.
In the United States, for tax purposes, Bitcoin and other types of cryptocurrency are considered to be property. As the IRS states, in some cases, cryptocurrency operates like “real” currency. In this case, the fair market value is based on when the cryptocurrency was acquired.
For example, if you receive virtual currency as payment in exchange for goods and services, you would need to include that value in your computing gross income, documenting the date when you acquired it. Those who successfully mine virtual currency need to do the same.
When it comes to accounting for digital currency, the most important practice to remember is to record the value of your cryptocurrency when you first receive it and when you later spend it. This will allow you to calculate and report associated gains and losses.
As stated above, the United States, and more specifically the IRS, treats cryptocurrency as property. It’s viewed in a similar manner to capital assets. This means that it is most often treated like stocks, bonds, or real estate. However, not all of the same rules apply.
In terms of your taxes, if you are exchanging cryptocurrencies, you will likely need to fill out and submit 1040 Schedule D and Form 8949. Depending on your situation, certain transactions may not count as a taxable event. That’s why you need to keep detailed records and seek professional assistance if you’re unsure about your specific situation. After all, the world of cryptocurrency is constantly evolving.
Related: How to Report Cryptocurrency on Taxes — Experts Share Tips and Tricks
To simplify accounting, seek the assistance of a full-service cryptocurrency accountant at Founder’s CPA. They will help you calculate and understand all associated gains and losses. In turn, you’ll be able to keep more accurate, detailed records moving forward, simplifying tax time. The accountant will also help you minimize any associated losses.
When considering capital gains, you must first understand the difference between short- and long-term gains. Simply put, the difference between these gains lies in the length of time your investment was held. This will impact your tax bill.
In comparison to long-term gains, short-term gains do not benefit from a special tax rate. In this case, they are taxed at the same rate as your income. For example, if you purchase Bitcoin for $350 and then two months later sell it for $425, that $75 profit would be subject to short-term capital gains tax.
However, if you were to hold onto your cryptocurrency for more than a year, your profits would be subject to long-term capital gains tax, which is applied at a reduced rate. For 2018, depending on your ordinary tax rate, you could qualify for the zero percent rate. In contrast, if you’re a high-income taxpayer, long-term capital gains could save you as much as 19.6 percent off your standard income rate.