9 September 2022
TOPIC: Crypto Taxes
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In this blog, we are breaking down how crypto taxes work.
If you’ve never encountered a client who has investments in Crypto and wants to know the rules around Crypto taxes, then this blog is for you.
When Does My Client Have To Pay Crypto Taxes?
You know you must pay taxes when participating in one of the 4 taxable events.
- Got paid in Crypto/Earning Crypto as income
- You traded your Crypto for fiat currency like USD
- Getting Crypto in exchange for goods or services
- Mining crypto
What I just listed above are all considered taxable events. They are actions you took with your money (aka Crypto) that you need to pay taxes on.
If you accept Crypto in payment for a good or service, you’re responsible for reporting it as income to the IRS.
Also, if you mined Crypto, you’ll likely owe Crypto taxes on your earnings based on the fair market value of the mined coins at the time they were received.
Note: Crypto mining as a business is taxed as self-employment income.
How Is Crypto Taxed?
When it comes to cryptocurrency, you will only be taxed on your profits.
If you bought Bitcoin for $20,000 and you sold it for $80,000, then you just made a profit of $60,000.
However, you will not be taxed on that 60,000 because you made a buy-in of $20,000 (principle).
Like stocks, Crypto is taxed based on whether it’s a short-term or long-term capital gain.
The #1 question you’ll want to ask your client is how long they have been holding onto their Crypto before selling.
If they bought and sold Crypto within a year, that would be considered a short-term capital gain.
If they bought and sold Crypto after a year of holding it, that would be considered a long-term capital gain.
There is a huge tax difference between long-term and short-term capital gain.
Overall, they will pay more taxes if they sell their Crypto short-term.
How Much Is The Tax Rate?
How much your clients pay in taxes will ultimately depend on their annual income and holding time.
If your clients make multiple six figures or more per year, their tax bracket will be much higher than those who make $40,000 per year.
Even so, the capital gains tax rules will still apply no matter their annual salary. Generally speaking, this is what you’ll want to remember:
- Short-term capital gains tax will be at their normal rate (10%-20% higher than long-term capital gains).
- Long-term capital gains tax will have a lower tax rate (10%-20% lower than short-term capital gains).
For example, some who make $500k annually might fall into a high tax bracket with a 35% tax rate.
In that case, their short-term capital gains will be taxed at their normal rate of 35%
However, their long-term capital gains tax will be at a lower rate of something like 20%.
Our Government loves to see people invest in the long-term.
Hence, they incentivize our clients to hold Crypto for at least a year before selling by offering a lower-than-normal tax rate.
What If I Have Clients That Lends Crypto
If you have a client lending Crypto, that will be classified as interest income.
When your client lends out Crypto, they get paid interest in that same cryptocurrency or other forms of Crypto.
For example, your client could lend out 100 BTC and start receiving small interest payments of 5 BTC or 10 AUR.
When your client receives interest payments, they then want to convert those payments into USD.
That 5 BTC or 10 AUR will be classified as interest income on their tax return.
So accurately reporting how much your clients made in USD is crucial to avoiding any audits or penalties.
You will then add up all the money you have received through crypto lending (in USD) and then report it as other income on your tax return.
What About Crypto Staking?
Currently, Crypto Staking is taxed the same way as ordinary income.
Like crypto lending, you need to convert your staking rewards to USD and then report it on your tax return.
Your client can report it as other income, or if it’s business related, it can be reported on Schedule C.
Note: Reporting your crypto income on a schedule C does require you to pay self-employment tax.
Will My Clients Receive a Tax Form?
Your client will receive a tax form if they hold with a company that complies with the IRS.
Your client will not receive a tax form if their crypto wallet is held in some offshore account.
Regardless if your client received the form or not, they are still expected to pay Crypto taxes on any of the four taxable events listed above.
What is FIFO?
FIFO is a standard accounting method we use to calculate how much your client’s capital gains.
FIFO stands for First-In-First-Out.
How this method works is that you would sell the first cryptocurrency your client acquired.
So say your client bought 1 Bitcoin at $2,000 back in 2017. Then in 2018, they purchased another bitcoin and 2 more Bitcoins in 2019.
However, for the FIFO method, we will ignore the bitcoins they bought in 2018 & 2019 and only sell the first Bitcoin they bought in 2017.
When they sold their first Bitcoin in 2019, they could get $7,000.
Remember, their cost basis was $2,000, meaning their gain was $5,000 at the time of sale.
That $5,000 will be taxed at long-term capital gains because the Bitcoin was held for more than a year.
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