Taxable Events
Selling crypto for fiat money
Selling cryptocurrency for fiat currency is a capital event, and the taxpayer may experience a capital gain or loss. A key rule of thumb to remember is that if your cryptocurrency is leaving your possession, it is a disposition, and you may be subject to a capital gain or loss.
Using crypto to pay for goods or services
The IRS’ position on using crypto to pay for goods and services is:
“If you exchange virtual currency held as a capital asset for other property, including for goods or for another virtual currency, you will recognize a capital gain or loss.”
Any use of cryptocurrency to pay for goods and services is a taxable event. This could be for a crypto related service or for a “real world” transaction like using crypto to pay for a coffee.
When you pay for goods and services using cryptocurrency, the IRS views that you are effectively exchanging that capital asset for property or service. As such, you must recognize a capital gain or loss, because in exchanging the cryptocurrency, you are disposing the cryptocurrency that you own. A rule of thumb to remember is that the cost of the services you receive is your proceeds, and you would subtract that from the original cost basis of the cryptocurrency you spent. The difference between these amounts would be your capital gain or loss.
If you use virtual currency to purchase property, including goods as part of an ‘arm’s length transaction’, the gain or loss is the difference between the fair market value of the property and your adjusted basis in the cryptocurrency exchanged.
Exchanging cryptoassets for a different cryptoasset
When you exchange one cryptocurrency for another, the IRS classifies the exchanges as a disposition and a capital event, you will need to calculate and report a capital gain or loss and are subject to capital gains tax.
For an exchange of cryptocurrency, capital gain or loss is the difference between the fair market value of the cryptocurrency you received and the original cost basis of the cryptocurrency you exchanged.
Like-kind exchanges allow for exchange of property of like-kind or similar nature without tax being applied. Many traders wrongly assume that crypto to crypto transactions (such as exchanging some Bitcoin for Ethereum) meet this description. However, the IRS have clarified that like-kind exchanges are not applicable to cryptocurrency and exchanging crypto for crypto is subject to capital gains tax.
Selling cryptocurrency for Stablecoins is subject to capital gains tax. Stablecoins are backed by fiat currency but are not a fiat currency. Therefore the same rules apply as a cryptocurrency to cryptocurrecy exchange.
Example: exchanging cryptocurrencies
To further illustrate the capital gains tax consequences for exchanging cryptocurrencies, consider the following example:
Melanie buys 10 Token A for 20,000 USD in 2016.
In 2018 she trades her Token A (now worth 30,000 USD) for 10 Token B.
A few months later Token B’s value drops to 10,000 USD but Mel decides to hodl.
To determine her capital gains, we must classify the trade of Token A for Token B as a sale and subsequent buy:
*Note that when Mel sold Token A on 01/07/2018, she gained $10,000 from her original purchase in 2016. That $10,000 is Mel's capital gain, and is now subject to a Capital Gains tax. This is true even though she now has an unrealized loss while holding Token B.
Let’s consider this same example, but in this case- Mel had sold her Token B at a loss:
As you can see in this example, when Mel waited until the price of Token B went down in April 2018, she sold it at a loss of $20,000 from when she originally bought in January. That $20,000 loss can be used to reduce her overall capital gains liability for 2018. When adding in the $10,000 gain from Token A to the $20,000 loss from Token B, she would still have a capital loss of $10,000 for the year.
Tax-Loss Harvesting
Selling crypto that is in a loss position to offset gains is an example of “tax-loss harvesting”, and some cryptocurrency investors will use this strategy to reduce their tax liability. We recommend consulting with your tax attorney or accountant to see if this strategy will assist you in your trading situation.
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