If you're lucky enough to have made money on cryptocurrency, don’t spend it all in one place. At the end of the tax year, Uncle Sam will want a cut.
Like earning a profit in the stock market, realized cryptocurrency gains are taxable. While you may feel like a little bit of a renegade participating in the crypto community, don’t make the mistake of ignoring your cryptocurrency taxes.
If you do, you may wind up owing penalties, interest, and more in the future. Here’s what you need to know about paying taxes on your crypto gains.
Tax Implications Of Selling Cryptocurrency
Any time you sell or convert cryptocurrency, it’s a taxable event. Profits increase your tax bill, while losses can offset those tax gains to lower your taxes due. In general, cryptocurrency activity breaks down into two taxable situations:
- Realized capital gains: Capital gains are an increase in the value of the currency you hold. These gains are "realized" when you sell. For example, if you buy a coin for the equivalent of $1 and sell it for $2, you have $1 in realized capital gains. This also applies to NFTs.
- Earned income: Currency you earn from staking, mining, and other activities is considered taxable income, similar to income from a side hustle.
The amount you owe depends on several factors, including how long you held the asset, how much you earned in total throughout the year, and your capital gains tax bracket.
Most tax software can import cryptocurrency-related tax information or forms to calculate your total taxes due. When in doubt, consider working with a trusted accountant or tax professional.
Are Cryptocurrency Gains Reported To The IRS?
When you signed up for your crypto exchange account, did you enter your Social Security number and other identifying information? If so, you should count on your cryptocurrency activity being reported to the IRS.
However, even if it isn’t reported, you’re still required by law to disclose any income on your tax returns. That includes cryptocurrency, which is technically considered property by the IRS.
You may be tempted to cheat on taxes when you don’t get a 1099 form in the mail, but you should avoid the urge. The penalties for tax-dodging can be stiff, up to the point of jail time.
Plus, remember - all cryptocurrency transactions are done on a public blockchain. This means that all transactions are public - and that also means the IRS can see all transactions that take place. Once the IRS figures out enough blockchain addresses, it's basically a giant sudoku puzzle to put all the pieces together.
What this means is, you better report your gains. The IRS already knows (or will know) if you don't.
Cryptocurrency Tax Software
If you only have one cryptocurrency wallet or exchange account with simple holdings, you may be able to figure out your cryptocurrency gains with a simple spreadsheet.
But most people will have to grapple with hundreds or thousands of transactions across many accounts. Figuring out transfers, wash sales, and other tax details can be arduous to do manually.
Crypto tax software imports your crypto wallet and exchange data to generate your cryptocurrency tax results and forms. These are some of the top options on the market today:
- CryptoTrader.Tax (by Coin Ledger): Has a free tier that allows you to preview its reports. If you like what see, you can pay to download reports or integrate with TurboTax or TaxAct.
- ZenLedger: Connects to over 500 supported exchange and wallet accounts. Works with popular tax software and even has tax pros available that can do your crypto taxes for you.
- CoinTracker.io: Cryptocurrency tax calculations with powerful features for monitoring your portfolio year-round.
- Koinly: Powerful cryptocurrency tax software for users worldwide, not just the United States.
Want to try filing your crypto taxes on your without the help of tax software? If so, you'll likely need to use Form 8949 and Schedule D. And if you earned crypto as income (such as through mining), you may need to report those earnings on Schedule C or Schedule 1.
How To Avoid Taxes On Crypto Gains
Perhaps the easiest way to avoid paying taxes on crypto gains is to simply continue HODLing your assets over the long-term.
As we've already mentioned, only realized capital gains are taxable. So even if the the cryptos you own have risen in value by tens or hundreds of thousands of dollars, you won't owe a penny of taxes until you sell some of your holdings.
Also, when you sell a crypto asset in under one year, it’s taxed as a short-term capital gain. But after one year, it’s taxed as a long-term capital gain at a lower rate. Learn more about crypto and NFT tax rates. Here are a few more legal methods to reduce your taxes due from cryptocurrency gains:
- Harvest your tax losses: If you have cryptocurrency losses in your portfolio, you can sell and re-buy the currency to capture the tax loss.
- Make charitable donations: Donations of cryptocurrency directly to a charity wipe out the capital gains on that currency for tax purposes.
- Invest inside a retirement account: Through a self-directed IRA, investors can invest in crypto without having to worry about the taxability of their earnings.
- Borrow against your crypto: By taking out a crypto loan with a company like Celsius, you can use some of your crypto gains to access cash without having to pay taxes on those borrowed funds. And you can pay back your loan over time as your leveraged assets hopefully continue to rise in value.
Finally, keep in mind that if you're a crypto miner, you can also deduct your mining expenses to reduce your taxable income.
Don’t Neglect To Pay Your Crypto Taxes
Cryptocurrency taxes are no laughing matter. It’s essential to take the time to figure out what you owe and file accurate taxes with the IRS.
If you don’t, you could owe stiff penalties and interest. It's much easier to do your taxes right the first time with all of your cryptocurrency activity included.
When you file accurate crypto taxes, you can keep on HODLing and rolling in crypto profits for years to come… without worrying about past taxes sneaking up on you.
Eric Rosenberg is a financial writer, speaker, and consultant based in Ventura, California. He holds an undergraduate finance degree from the University of Colorado and an MBA in finance from the University of Denver. After working as a bank manager and then nearly a decade in corporate finance and accounting, Eric left the corporate world for full-time online self-employment. His work has been featured in online publications including Business Insider, Nerdwallet, Investopedia, The Balance, HuffPo, Investor Junkie, and other fine financial blogs and publications. When away from the computer, he enjoys spending time with his wife and three children, traveling the world, and tinkering with technology. Connect with him and learn more at EricRosenberg.com.