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A Comprehensive Guide to Tracking and Reporting Crypto Transactions for Tax Purposes in the U.S.

As cryptocurrencies and blockchain assets continue to grow in popularity and mainstream adoption, the United States Internal Revenue Service (IRS) has taken an increasing interest in their taxation. Failure to accurately track and report these transactions can result in penalties and fines. In this guide, we will provide a comprehensive overview of how cryptocurrency is taxed in the U.S., the different types of taxes that apply, and how to track and report crypto transactions for tax purposes.

How Cryptocurrency is Taxed in the U.S.

In the U.S., cryptocurrency is subject to taxation in two ways: capital gains tax and income tax.

Capital Gains Tax

Capital gains tax applies to profits earned from the sale of an asset that was purchased at a lower price. Any gains realized from selling or trading a digital asset for a higher price than purchased are subject to capital gains tax. Capital gains events include selling cryptocurrency for fiat currency, purchasing goods and services with cryptocurrency, trading or swapping one digital asset for another, and sending cryptocurrency as a gift (over $15,000). Additionally, purchasing NFTs with cryptocurrency is also considered a capital gains taxable event.

The IRS’ long-term cryptocurrency tax rates will apply to gains on cryptocurrencies that have been held for over a year. For single individuals, no tax would be levied on crypto gains of up to $44,625. For individuals filing as heads of household or married people filing jointly, the rates range from 0% to 20% based on income tax brackets.

Income Tax

Income tax on cryptocurrency transactions applies to earnings from the mining and staking of tokens, receiving cryptocurrency from airdrops or any crypto interest earnings from decentralized finance (DeFi) lending, and receiving cryptocurrency as a means of payment for labor.

When is Cryptocurrency Not Taxed?

Some cryptocurrency transactions that are not subject to either capital gains or income tax include purchasing cryptocurrency with fiat currency, holding cryptocurrencies without selling them, moving cryptocurrency between your own cryptocurrency wallets, gifting cryptocurrency amounting to less than $15,000, donating cryptocurrency to charities (in fact, this may be tax deductible), and creating an NFT (unless it is sold).

How to Track Crypto Transactions

It is essential to accurately track and report all cryptocurrency transactions and consult a tax professional to meet all obligations. For some, it may just be a matter of screenshotting the few crypto transactions they’ve made all year. For others, recording crypto transactions across all Web3 ecosystems can be an arduous affair.

Several purpose-built crypto tax software solutions are available for tracking and generating reports for cryptocurrency transactions. If you prefer to do it all yourself, here’s a step-by-step guide to tracking and reporting crypto transactions:

  1. Identify and organize all of your cryptocurrency transactions, including trades, purchases and sales. Make a list of the type of cryptocurrency or asset, the date of the transaction, the amount and the value at the time of the transaction. It’s also a good practice to note the relevant wallet addresses.
  2. Calculate the cost basis for each transaction, which includes the purchase price, fees and any other costs incurred.
  3. Determine the gain or loss on each transaction, which is the difference between the cost basis and the fair market value of the cryptocurrency at the time of the sale or trade.
  4. Separate your short-term and long-term transactions based on whether you’ve held the crypto asset in question for less than a year (short-term) or longer than a year (long-term).

Reporting Crypto Holdings on Your Taxes

After accurately tracking your crypto transactions, you must send them all to the IRS for tax purposes.

Reporting Capital Gains and Losses

The crypto tax Form 8949 is used to report the sales and disposals of capital assets, including cryptocurrencies. It consists of two parts: Part I for short-term disposals and Part II for long-term disposals.

You need to check the relevant box at the top of the sheet based on whether your transaction was reported on Form 1099. Crypto tax Form 1099 B — supposed to be issued by exchanges — is used to report various types of income received throughout the year, including income from stock investments and cryptocurrencies.

However, as most exchanges do not issue Form 1099-B for cryptocurrency transactions, you will likely need to select option C (on Form 8949), which applies to short-term transactions that were not previously reported.

To fill in the details on Form 8949, you’ll need to provide the following information:

  1. A description of the crypto asset sold
  2. The date you originally acquired it
  3. The date you sold or disposed of it
  4. The fair market value
  5. The cost basis
  6. The gain or loss.

Once Form 8949 is filled out, you must take the total gain (or loss) and mention the same on Schedule D of Form 1040.

Reporting Crypto Income

The most common form for individual income tax returns in the United States is Form 1040. You must report all crypto income on your 1040, along with capital gains or losses from crypto transactions.

Form 1040 has a crypto question: “At any time during 2023, did you: (a) receive crypto as a reward, award, or compensation; or (b) sell, exchange, gift, or otherwise dispose of a digital asset?” Withholding information or any form of dishonesty constitutes tax fraud.

Earning crypto as a business entity via payments for labor, running a mining income operation, or tapping into staking income are treated as self-employment and must be reported in Schedule C of Form 1040.

When it comes to reporting crypto income from airdrops, forks or other sources, such as wages and hobby income, it is usually recorded as “other income” on Schedule 1 of Form 1040.

Conclusion

In conclusion, accurately tracking and reporting all cryptocurrency transactions is crucial to avoid penalties and fines from the IRS. By understanding how cryptocurrency is taxed, using purpose-built crypto tax software solutions, and following the step-by-step guide provided, you can ensure that you are meeting all of your tax obligations. It is also essential to consult a tax professional for guidance on filing your cryptocurrency taxes accurately and reporting them correctly on your tax return.