So you’ve found out you likely owe taxes on your cryptocurrency from our last cryptocurrency article release, what now? Your next step should be to compile all documents you have related to cryptocurrency transactions to best estimate how much you will owe in taxes.
Calculating Crypto Income
U.S. taxpayers may be used to seeing federal and state income tax deductions come straight out of their pay stubs. Cryptocurrency is subject to the same income taxes if received as income, however, this will not be automatically deducted or withheld. This income will still need to be reported to the IRS, and when reporting the earnings they will typically be subject to the same income tax rate aligned with your tax bracket. Those who have had a lot of crypto transactions should be wary as the increased activity may affect the bracket you find yourself within, thus affecting your tax rate.
Calculating Capital Gains and Losses
As mentioned in our previous write, keeping tabs on your cost basis is very important for finding out your tax liability on the crypto activity you’ve partaken in. How do you determine what your cost basis is?
Cost Basis Calculation Rules
When purchasing crypto, your cost basis typically is determined by how much you paid for it. However, if you received the crypto from mining or staking your cost basis will be calculated by what the fair market value was at the time you received it. Gifted cryptocurrency can be a bit more difficult to calculate as it will depend on not only the fair market value of when you received it but also on the basis of the person who transferred it to you.
Capital Gains and Losses
Now that you know how to determine your cost basis, you can calculate your capital gains or losses. You can do so by subtracting your cost basis from your sale price; if your proceeds are greater than your cost basis you have a capital gain, if not, it’s a capital loss.
Short Term vs. Long-Term Capital Gains
If you sold the cryptocurrency for a gain, you will now have to pay taxes on that gain. Capital gains taxes are applied at both the federal and state (where applicable) level and can be taxed as short-term or long-term capital gains. Long-term capital gains occur when the asset was held onto for over a year, and are typically more favorable when calculating tax liability than short-term gains. This is because long-term capital gains are taxed at a reduced capital gains rate, while short-term gains are taxed at your ordinary-income tax rate.
Capital Losses
If you do not have any capital gains on record, or if your capital losses are greater than your capital gains the maximum amount you can declare to offset other income is $3,000. Any amount over the $3,000 can be carried over to following years until the full amount of the loss is applied.