Taxes on Bitcoin and other cryptocurrencies can be a complicated subject, yet one that is necessary to learn if you want to trade in the market. There was a time when many didn’t bother to report their crypto gains on their taxes, but following the IRS forcing Coinbase to hand over customer data it’s become far more important to correctly account for cryptocurrencies in your taxes.
In the United States, the IRS treats cryptocurrencies as property. Which means that in regards to tax they aren’t any different from other investments, such as stocks or bonds. When you choose to sell off your stocks, bonds, or cryptocurrency, a special tax called a capital gains tax is assessed by the government. The amount you’ll have to pay in tax is variable, being determined by how long you’ve held the online investment. The idea is that by taxing assessing higher taxes on investments sold less than a year after being bought, more people would hold long term investments, thus keeping markets stable. Well, at least more stable than they would be otherwise. Those wishing to avoid paying dramatically increased taxes on their cryptocurrencies have a few options.
1. Be a Long Term Investor.
It might seem counter to the traditional wisdom surrounding crypto trading, but by shifting your perspective on cryptocurrency and holding the coins throughout downturns, waiting for the cycle to run its course, you can save a significant amount of money from a decreased tax rate. You might assume the change in tax rate is negligible, but it’s a significant hike. Short term capital gains can be taxed at a rate of up to 37%, compared to the maximum rate of 20% for investments held for over a year. In some cases, you could find that you lost less by waiting and selling at a somewhat reduced price than you’d have lost by cashing out immediately! You might not want to completely abandon short term trading, for some coins it might be the only profitable option, but keeping some of your portfolio in some of the more establish cryptocurrencies long term can keep down your overall tax costs.
2. Borrowing Against Your Cryptocurrency.
While it isn’t always the best choice, there are a number of lending services that allow a trader to borrow fiat currency against their crypto balance. This functionally allows you to trade the short term capital gains tax for the long term version. There is still interest to worry about, and various other factors, but those looking to get access to their gains quickly without giving the government a large cut of it, these sort of lenders may be a good option.
3. Gifting Coins.
Alright, so maybe giving away your assets isn’t really a solution. But since no tax is assessed on gifts that are under the value of $15,000, gifting cryptocurrency to family and friends is an interesting way to get a sort of use out of the currency, and introduce more people to the crypto markets.
4. Using Retirement Account.
Retirement accounts, like an IRA or 401K, are designed to help you save money for your eventual retirement. To help you do that, you can use these accounts to invest in most of the things you would be able to with any other cash-holding account, such as stocks or bonds, with one major difference; removing funds from retirement accounts often subjects the withdrawn money to a fee of up to 10 percent.
Another thing a retirement account can invest in is cryptocurrency. In using this account for your transactions you can defer or avoid the taxes you would usually have to pay, with all income and gains generated returning to the account. This allows crypto investments to grow much more quickly than they would using other methods.
5. Ensure Detailed Records are Kept.
When dealing with taxes, proper record keeping is paramount. To make sure you aren’t over or under paying on your capital gains taxes, you should be keeping a record of every single crypto-related transaction you make every year, preferably as soon as they are confirmed. You’ll need to note the date the coin was acquired, the value in your native fiat currency, the sale date, and your profits from the sale. You’ll use the information you collect to calculate the cost basis and report gains, usually through automated software designed to do so.
If you didn’t have the forethought to do this stuff ahead of time, you’ll have a much harder time come tax season. Of course, you might be able to ease the burden somewhat by hiring a professional accountant to help the process along.
6. Bring in a Professional.
It’s not impossible to calculate all the necessary data yourself, but it can be a long, boring, laborious process. And for anyone that has more going into their incomes than just trading profits, the entire process becomes exponentially more confusing and difficult. Given that a significant amount of dedicated traders also maintain some kind of self employment, there will be a lot of people facing the latter.
For traders who don’t have time to do their own all of their own taxes, or simply don’t want to do them, there are numerous professionals in accounting that specialize specifically in cryptocurrency related taxes. They’ll be able to make better use of specific rules, exceptions, and loopholes related to crypto capital gains, so you might be able to save more than you would otherwise. Of course, these services aren’t free, so you’ll have to balance the cost of those services against the savings you stand to gain on your profits.
You shouldn’t worry too much about the profit you’ll be losing from capital gains taxes. The fact the tax is being assessed at all means your making money, and that’s never a bad thing. Just remember to stay disciplined in record keeping, and to make the best use you can of all the many resources you have at your disposal to minimize your tax payments where and when you can.
This article is not financial advice. The content above is strictly the opinion of the author. Do thorough research before investing in any asset.