How To Report Cryptocurrency On Your Taxes

Are taxes applicable to the gains incurred from cryptocurrency?

The response is a conditional “yes”; individuals may be required to pay taxes on profits earned from cryptocurrencies. The Internal Revenue Service will not miss an opportunity to levy taxes on a capital gain, regardless of its association with a government-unaffiliated currency.

It is crucial to note that you have the option to completely avoid paying any capital gain taxes on cryptocurrency if you initially invest using a Roth Solo 401k.

Contrarily, almost all broker accounts consider Bitcoin, Ethereum, and other cryptocurrencies taxable when purchased and sold. The IRS categorizes cryptocurrency as “property” for tax reasons, implying that it is subject to taxation similar to your other assets. Crypto is often likened to gold, with the IRS treating gold, stocks, and cryptocurrencies as investment properties that incur tax obligations upon being sold or exchanged for a capital gain.

The IRS will play a crucial role in establishing guidelines for reporting cryptocurrency on tax returns this year. With the surge in popularity of cryptocurrencies, it is evident that a significant number of Bitcoin investors entered the market within the past year. Consequently, the crypto market experienced various record-breaking highs and lows, resulting in substantial profits and losses for numerous investors.

The IRS has provided clear guidance on how to report cryptocurrency on your taxes. The fundamentals of cryptocurrency taxation were established in 2014 through IRS Notice 2014-21.1. Nabers Group, the most experienced IRS-approved document provider in the field, was well-prepared. They assist in structuring your retirement account in a compliant manner, allowing you to not just buy cryptocurrency but also have control over your own keys.

How to Avoid Capital Gains Tax on Crypto

The great thing about having a Roth Solo 401k is that not only are the gains from crypto (and other assets) exempt from taxes, but you can also bypass the complex IRS monitoring and yearly reporting obligations. Taxation does not apply to Roth gains. Additionally, Roth Solo 401k accounts do not need to be included in your personal tax return (Form 1040). Although this is excellent news, there’s more to the story.

The Roth Solo 401k may not be suitable for everyone at this stage of their life. While utilizing a Roth account requires paying taxes on the initial investment funds, but not the gains, there are valid reasons why some individuals prefer to defer tax payments on their retirement investments. This is where the traditional Solo 401k proves beneficial for crypto investments, as it allows for the avoidance of capital gains taxes until a later stage when the individual is in a lower tax bracket after retirement. By opting for a Solo 401k, individuals can reduce their current year’s income, resulting in a lower income tax payment today. This enables them to invest the saved money in crypto without owing capital gains taxes for several years. The tax payment only becomes due gradually when withdrawing the funds during retirement while in a lower tax bracket.

With a Solo 401k, you can invest and trade crypto without having to track and report it annually for tax purposes as these transactions are tax-exempt and do not appear on your personal tax return (1040). The obligation to report cryptocurrency on your taxes will only arise many years later when the IRS loses interest in this matter. However, the advantages of a Solo 401k don’t end there.

The highest contribution limits allowed are offered by both the Solo 401k and the Roth Solo 401k. These retirement contributions provide you with complete control and the ability to invest in nontraditional assets such as crypto. The IRS-approved contribution limit for a Solo 401k increases annually to account for inflation. In 2021, the maximum contribution limit for a Solo 401k was $58,000. However, in 2022, it was raised to $61,000, with an additional catch-up contribution allowance of $6,500 for individuals aged 50 or older. Consequently, the potential contribution total for 2022 could reach $67,500. Additionally, if both you and your spouse are making maximum contributions, the joint annual contribution limit can be as high as $135,000.

How to Report Cryptocurrency Transactions on Your Taxes

Savvy investors are aware that the IRS will closely examine the reporting of cryptocurrency on tax returns in the coming years. Presently, a significant development has occurred as the IRS introduced a question on Form 1040 for the first time, inquiring whether any virtual currency transactions were made during 2020. Consequently, individuals can no longer plead ignorance regarding the obligation to report such activities for tax purposes.

If you indicate that you had a financial interest in crypto, the IRS will require form 8949 to be attached to your return, specifically for reporting sales and other dispositions of capital assets. This form has two sections for short-term and long-term capital gains. However, you are not required to pay taxes until you sell the cryptocurrency. Merely purchasing virtual currency with U.S. dollars and keeping it within the exchange or transferring it to your personal wallet does not automatically result in tax obligations at the end of the year. If you do have tax liabilities, the short-term capital gains tax rates for 2021 vary between 10% and 22% depending on your annual income. Alternatively, the long-term capital gains tax rates for 2021 range from 0% to 20% based on your income level.

It is important to note that a Solo 401k or a Roth Solo 401k does not require you to file a tax return. If you hold cryptocurrency in one of these accounts, you do not need to check the box on your personal 1040 form stating your financial interest in cryptocurrency. Unless you have capital asset sales outside of these accounts, filing form 8949 is not necessary. The earnings from your Roth Solo 401k will remain tax-free indefinitely, even when you withdraw them post-retirement. Taxes on your Solo 401k will be deferred until withdrawal after retirement, likely resulting in a lower income tax bracket.

You must report the following crypto activities on your personal tax return if you do not have a Solo 401k:

Selling your crypto for cash.
Trading one cryptocurrency for another digital currency.
Using cryptocurrency to make purchases, pay bills, or other financial transactions (every day more crypto debit cards are being accepted by vendors).

Mining crypto yourself or owning a stake in crypto mining.
Being paid in crypto by others.
An airdrop of tokens resulting from a hard fork in the crypto computer code.

You are not required to report to the IRS if your sole involvement with cryptocurrency this year was buying it with U.S. dollars. This implies that as long as you do not sell it for a profit, you can personally purchase and retain cryptocurrency without notifying the IRS. Conversely, you can freely engage in purchasing, selling, and trading cryptocurrency within your Solo 401k without having to report it to the IRS.

Cryptocurrency & Bitcoin IRA Tax Rules

Understanding the impact of taxes on their accounts is crucial for investors, including those who have cryptocurrency IRAs. The IRS regards cryptocurrencies as property, similar to numerous other investments. Almost every sale can trigger a taxable event, with only some exceptions. However, if you choose to keep your cryptocurrencies in a crypto IRA, you may experience tax-free or tax-deferred growth, depending on the assets you invest in.

Income tax may be applicable in certain situations when activities involving cryptocurrencies are considered as sources of income. Usually, when cryptocurrencies are not held within crypto IRAs, capital gains taxes come into play in the occurrence of any of the following events.

Selling cryptocurrency for traditional currency.
Using cryptocurrency to purchase goods and services.
Trading one cryptocurrency for another on an exchange or peer-to-peer.

When any of the following events occur, income tax may be applied:

Receiving cryptocurrency from an airdrop.
Interest earned from decentralized finance lending.
Income earned from crypto mining from block rewards and transaction fees.
Crypto earned from liquidity pools and staking.

The act of accepting cryptocurrency as a form of payment for rendered services.

Do You Have to Claim Taxes from Holdings in Your Bitcoin IRA?

To avoid potential tax penalties, it is crucial to view a crypto IRA investment as a long-term commitment and avoid making any withdrawals before attaining the age of 59 and ½. However, withdrawals for specific hardships, defined by the IRS, may be exempt from these penalties.

Will Bitcoin IRA Send Me a 1099-Form?

It is possible to receive various types of 1099 forms related to your Bitcoin IRA, whether it be all, some, or none of them. However, as the federal regulation of cryptocurrency increases, all cryptocurrency exchanges may be required to adhere to regulations that involve generating accurate tax documentation.

Included below are concise explanations of the various kinds of 1099 documents that may be involved in cryptocurrency and IRAs.

If you have over 200 transactions and earn $20,000 or more in gross proceeds in a single tax year, you might receive a 1099-K form. This form will solely display the gross proceeds without including the cost, and the information will be organized by month.

Distributions from various sources such as Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc. can be found on the 1099-R form.

If there is a distribution of $10 or more, it is possible to report IRS information on a 1099-R. Generally, the issuing party of a 1099-R for the IRS, recipient, and state or local tax department is the plan or account custodians. A 1099-R should be obtained if you receive a qualifying distribution from various accounts like IRAs, profit-sharing plans, retirement plans, pensions, annuities, and similar accounts.

A 1099-B form will present details of your transactions by indicating the buying price, selling price, and any resulting profit or loss from the crypto sale.

A 1099-INT form is used to report interest income that is subject to taxation as ordinary income.

Can Taxes Be Avoided by Investing in a Bitcoin IRA?

Investing in a Bitcoin IRA can help in avoiding certain taxes. We have two types of cryptocurrency IRAs available: traditional and Roth. Traditional Bitcoin IRAs allow for tax deferral, while Roth Bitcoin IRAs have the potential to grow tax-free, depending on the chosen assets. Additionally, avoiding capital gains taxes can result in money savings. This allows for a greater enjoyment of personal funds during retirement compared to other investment strategies lacking this protection. However, it is important to note that there may be penalties if distributions are made before reaching the age of 59 and ½.

Does the IRS Track Bitcoin IRA Activity?

The IRS lacks the technical capability to monitor every Bitcoin or cryptocurrency transaction, thus relying on individuals to voluntarily comply. Taxation of cryptocurrency only commenced in 2014, with a primary focus on individuals with transactions totaling a minimum of $20,000 in any tax year.

Recently, the IRS has issued additional court summons to various exchanges, seeking comparable information. One instance involved Circle Internet Financial, a Boston-based cryptocurrency exchange, wherein the IRS demanded the provision of customers’ account registration information, account activity records, and other relevant materials for individuals who conducted transactions exceeding $20,000 in any tax year spanning from 2016 to 2020.

Recently, the IRS has issued court summons to other exchanges in order to acquire comparable information. However, it should be noted that the IRS does not monitor all cryptocurrency transactions. As cryptocurrency is classified as a capital asset similar to stocks or bonds, it is crucial for individuals to maintain complete transparency with the IRS when filing their tax returns. This implies that your tax return must clearly indicate whether you have engaged in any cryptocurrency transactions.

Each year, the responsibility of reporting transactions and generating 1099 tax forms lies with individuals, currency exchanges, and cryptocurrency IRA firms.

How Do I Report Taxes on My Cryptocurrency IRA Savings?

If you keep your money in a Bitcoin IRA, there is no requirement to report any gains or losses on your investments since IRAs are tax-sheltered. This implies that no taxes are imposed on any gains or losses while the money remains in the account. However, once you start withdrawing funds from your IRA, it is important to consider the potential taxes associated with it.

Short-Term Capital Gains Tax

Short-term capital gains taxes are frequently higher compared to long-term capital gains taxes. As an illustration, in the 2021 tax year, if your annual salary is $75,000 and you sell $100,000 worth of cryptocurrency six months after buying it, your taxable income for the year will be $175,000, combining the two. Consequently, this puts you in the 32% tax bracket, although previously your tax liability would have fallen within the 22% tax bracket. Individuals often utilize IRAs to postpone capital gains tax since the tax payment is deferred until funds are withdrawn from the account.

Long-Term Capital Gains Tax

The profit from the sale of property held for more than one year from the purchase date is subject to long-term capital gains tax. Property refers to real estate, precious metals, stocks, bonds, and cryptocurrency. The tax rate varies based on taxable income, ranging from 0% to 20% in graduated thresholds. According to Investopedia, the majority of taxpayers reporting capital gains are subject to a tax rate of 15% or lower. Utilizing an IRA can delay the payment of short-term or long-term capital gains tax until the money is withdrawn from the IRA.