Calculating crypto taxes can be challenging. In the U.S., crypto is regarded as a digital asset, and the IRS treats it like any other capital asset, such as stocks or bonds. Crypto assets may be taxed as income or capital gains, depending on how you acquired them and how long you held on to them. The following information will help you with what you need to know.
Track your crypto transactions
If you sell crypto for more U.S. dollars than you paid for them, you will owe tax. To calculate your crypto gains, you have to track your transactions and their associated tax lots.
A tax lot is a record of the tokens you buy or acquire in a single transaction. It includes information such as the date of acquisition or sale, the amount and currency of digital assets, and fiat value at the time of acquisition or sale.
Retroactively trying to find missing data is time-consuming and difficult. It is much better to keep detailed records, and the simplest solution is to use crypto tax software as it tracks all transactions. To save you time and effort, here's a rounded-up article on the best crypto tax software that offers the tools and features needed to file your taxes.
Find your cost basis
Cost basis refers to the original value of an asset for tax purposes. Calculating crypto gains or losses basically requires deducting the cost basis from the proceeds. The cost basis may be different depending on the following factors.
Tax accounting methods:
Using one tax accounting method on trading data can produce a different cost basis than another. The IRS allows various methods such as HIFO, LIFO and FIFO .
HIFO is when highest priced assets are sold first, whereas LIFO is when assets acquired last are sold first. FIFO is when assets acquired first are sold first. Whichever tax lot you choose as your cost basis for sale will have an impact on the taxable capital gains amount.
Transaction fees:
In many cases, you have to pay transaction fees for crypto transactions. When added to the cost basis of a crypto asset, the fees can increase capital losses or decrease capital gains.
Determine crypto capital gains rate
The rate for determining the tax on crypto transactions depends on how long they were held. The transaction is considered a short-term trade if they were held for a year or less and a long-term trade if they were held for more than a year.
You will pay the ordinary income tax rate for your short-term gains. You will pay a more favourable rate on long-term gains, and this will depend on your tax bracket. You have to report short and long-term gains separately because they are taxed differently.
Calculate your crypto gains
You can use a crypto tax calculator to simplify the process of calculating your crypto gains. It will aggregate your data, link your cost basis to your sales, and use an accounting method you decide on to calculate your gains or losses. To use a crypto tax calculator, you need to do the following.
- You need to import all exchange trade history and any crypto transactions you made off-exchange.
- Verify that you have imported all the data and manually edit to correct it if necessary.
- Decide on a specific crypto accounting method.
- Export your crypto tax forms and include them on your return.
Other facts you should know about crypto and tax
- Just buying crypto and holding on to it isn't taxable. Your crypto gains are not 'realized' until you sell, spend or exchange the asset. If you buy a token and hold it, you don't have any taxable gains or losses.
- Spending crypto isn't much different from selling it to the IRS. If you spend crypto on goods or services, you are likely to owe tax on the transaction. If you accept crypto in exchange for goods and services, you have to report it as income to the IRS.
- You can exchange one asset for another similar asset without recognizing a capital gain or loss. However, if you use bitcoin to buy ether, you technically have to sell your bitcoin first, so it's considered taxable if you sold the bitcoin for more than you paid for it.
- If you give crypto directly to a charitable organization, you may be able to claim a charitable deduction.
- If you receive crypto as a gift, you won't incur tax unless you sell it or engage in another taxable activity. You can also gift someone up to $15,000 dollars a year without paying taxes and more if you are giving it to a spouse.
- Transferring crypto between your wallets isn't taxable. You can transfer your original cost basis and the date you acquired it so you can keep track of the potential tax impact for when you eventually sell.