Before I get into IRS Tax, we need to know what is a cryptocurrency? At this point you probably has been in touch with all the cryptocurrency movement and you could understand in a practical way how you can get, use and sell these currencies, due this, I just want to set common understanding even if you are an expert or a rookie.
According to the website of the IRS a virtual currency is: “a digital representation of value that functions as a medium of exchange, a unit of account, and/or a store of value. In some environments, it operates like “real” currency”.
Akin to any other currency, you can buy products and services and sell them as well.
In the short and long-term this means all the cryptocurrencies has tax consequences that could result in tax liability.
What is a Bitcoin?
Bitcoin is a convertible virtual currency, that is, it has an equivalent value in real currency, for the IRS should be treated as an asset or an intangible property and not a currency as is a decentralized cryptocurrency used like fiat currency.
Bitcoin’s treatment as an asset makes the tax implication clear.
If you use bitcoins for transactions, you will incur a capital gains tax (either long-term or short-term depending on how long you held the bitcoins).
When it comes to bitcoins, the following are different transactions that will lead to taxes:
- Selling bitcoins, mined personally, to a third party.
- Selling bitcoins, bought from someone, to a third party.
- Using bitcoins, which one may have mined, to buy goods or services.
- Using bitcoins, bought from someone, to buy goods or services.
Bitcoins are very volatile and there are huge swings in prices on a single trading day.
The IRS encourages consistency in your reporting. If you use the day’s high price for purchases, you should use the same for sales as well. Also, frequent traders and investors could use “first-in, first-out” (FIFO) or “last-in, first-out” (LIFO) accounting techniques to reduce tax obligations.
For more information we encourage you to review the IRS issued IRS Notice 2014-21, IRB 2014-16, as guidance for individuals and businesses on the tax treatment of transactions using virtual currencies.