Cryptocurrencies are so new and uncharted that the rules for investing in them may appear to change as quickly as their price values.
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To be sure you’re reporting any tax-relevant information correctly and not getting yourself into financial trouble, two financial experts explained what you need to know about crypto before filing your taxes.
One of the most frequent mistakes taxpayers make when reporting cryptocurrency-related income is failing to recognize that digital asset transactions are subject to taxation under the Internal Revenue Code, according to Chad D. Cummings, Esq., a corporate and tax attorney, CPA and CEO at Cummings & Cummings Law.
“Many individuals wrongly assume that crypto is exempt from tax due to its decentralized nature or because it remains held in an online wallet,” he said.
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Another common error is failing to track cost basis accurately, Cummings said, particularly when assets have been transferred across platforms or wallets, which can obscure the original acquisition date and value.
Cost basis refers to the original value of a cryptocurrency asset when you bought it, including any fees or commissions you paid during the transaction.
Merely purchasing and holding cryptocurrency is not a taxable event, Cumming said. You’ll face taxes when a crypto transaction “results in the realization of gain or loss.”
This includes:
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The sale of cryptocurrency for fiat currency
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Trading one type of cryptocurrency for another
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Using cryptocurrency to purchase goods or services
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Receiving crypto as payment for services
For each of these scenarios, “a taxpayer has to calculate gain or loss based on fair market value at the time of the transaction,” Cummings said.
Tax liability is generally triggered only when the asset is sold, exchanged or otherwise disposed of. However, staking, mining and airdrops do constitute income upon receipt and are taxed at ordinary income rates.
All cryptocurrency income must be reported the year it is received, regardless of amount, but you might not realize what counts as income. Cryptocurrency earned through mining, staking or airdrops are treated as ordinary income, Cummings explained. However, the IRS treats the mining hobbyist differently from someone operating a mining business. Crypto staking rewards are also treated as gross income. Be warned, too: Airdrops are treated as ordinary income, even if the taxpayer did not request them.
