In countries like the U.S., cryptos like Bitcoin and Ethereum are regarded as ‘property’ for tax considerations.When you sell, trade, or otherwise get rid of your cryptocurrency in whatever way, you are more likely to incur capital gains and capital losses on your investments in crypto, just as you would with other kinds of financial investments.
On this capital gain, the amount of tax that you are obligated to pay is going to be determined by the tax bracket that you belong to. Your personal tax bracket and whether or not the gain was long-term or short-term both play a role in determining your commensurate tax rate.
In addition to buying, selling, and trading cryptocurrencies, if you earn cryptocurrencies in other ways (such as Web3 jobs, crypto mining, staking, airdrops or interest from lending activities), you are obligated to pay income taxes on the US Dollar value of your cryptocurrency earnings at the point when you received the cryptocurrency.
How Are Cryptocurrencies Taxed?
The rules governing the taxation of capital gains are applicable to cryptocurrency transactions, including those involving Bitcoin and Ethereum. When you sell bitcoin for a profit, the Internal Revenue Service (IRS) considers it to be a capital asset, and as such, you are required to pay taxes on the gain. This is precisely what takes place whenever you realize a profit from the sale of more conventional investments, such as stocks or funds.
Whether you've held your cryptocurrency for less than a year or more determines how much you'll owe in capital gains taxes when you sell it.
If you haven't held your cryptos for up to 12 months, your profits will be taxed at the rates that apply to short-term capital gains, often known as the rate that applies to your normal income.
However, if it has been at least a year since you bought your coins, you may be eligible for a more favorable long-term capital gains rate, depending on your taxable income. This is because long-term capital gains are considered investments held for more than one year.
The same applies if you sold any other investment at a loss. You would then be entitled to claim a capital loss, which can be used to balance other income taxes.
Crypto Transactions That Require Taxes
There are just a few activities pertaining to crypto that result in a tax obligation being incurred. Most crypto enthusiasts are not aware of this obligation or how it affects it directly but these activities include:
1. SELLING CRYPTO FOR LOSS OR PROFIT
If you sell a crypto for a higher price than you bought it for, you will be obligated to pay taxes on the profit from the sale. You are required to record this profit on your tax return, and the Internal Revenue Service will determine how to tax it based on whether it is considered normal income or a capital gain. The category it belongs to is determined by how long you've held onto your ‘bag’.
2. MINING CRYPTO
Mining refers to the process of validating transactions that are made on a Blockchain. Miners are paid with a fraction of the bitcoin that is in circulation when they use their supercomputers to solve the technical equations that are necessary for verifying transactions.
The IRS classifies this payment as "ordinary income" and taxes it in accordance with that designation. As a miner, you are responsible for paying taxes based on the value of the coins you mined at the time you received them.
3. AIRDROP GAINS
An "airdrop" is the term used to refer to the distribution of crypto tokens as a free gift. Some businesses, in an effort to encourage more widespread use of their cryptocurrency, provide customers with free tokens. When you receive these coins, the rate of tax that applies to your ordinary income will be applied to the fair market price of the coins.
4. PAYMENT FOR GOODS AND SERVICES WITH CRYPTO
You are obligated to report any capital gain or loss that results from the exchange of your cryptocurrency for goods and services. The difference between the value of the products or services you acquired and the expected cost of your cryptocurrency represents the amount by which you have gained or lost money.
Let's imagine that you spent $800 to get one Ether (ETH). After waiting a few years, the value of your ETH has increased to $3,000, so you decide to use it to buy an NFT that costs $3,000 worth of ETH. Your capital gains from this would be the difference between the purchase price of the NFT, which was $3,000, and your cost basis, which was $800. Your profit would be $2,200 in this scenario, and it would be subject to a tax on long-term capital gains.
Best Ways To Reduce Your Crypto Taxes
There are various ways to conveniently reduce the amount of taxes you will pay on your crypto. Let’s be sincere, no one wants to pay too much taxes or at the very worst, a not too astronomical amount.
Here are various ways to legally reduce the amount of taxes you are obligated to pay on your crypto:
1. LONG TERM ‘HODLING’
You can reduce the amount of money you have to pay in taxes by delaying the sale of your assets until after they have been held for a longer period of time. It is important to remember that if you 'hodl' your cryptocurrency for longer than a year, your capital gains tax bill will be lower.
Remember that cryptocurrency prices are notoriously volatile, and this is something you must keep in mind. If you believe that the price will go down within the next several months, it might be in your best interest to sell rather than wait. Nevertheless, whenever you make decisions pertaining to trading, you should keep the long-term capital gains rate in mind.
2. BALANCE PROFITS WITH LOSSES
Just like any other investment, you can benefit from crypto profits by claiming losses on other investments in the same year you make a profit. Thus, if you earned $5,000 from the sale of Ethereum but lost $5,000 from the sale of Luna, you would owe no taxes since you balanced the books.
However, these losses are not exclusive to only crypto. If you intend cashing out a substantial crypto investment, you should examine the remainder of your portfolio to determine if you can sell any losing investments to balance your gains.
3. PROFITS IN LOW-INCOME YEARS
The amount of tax that you pay on crypto sales is dependent on your annual income bracket for that year. Based on this, some investors prefer to take profits on crypto gains during years when their personal income is low. In certain situations, this can have a significant impact on your tax liability.
4. GIVING CRYPTO AS GIFTS
There are unique tax advantages associated with receiving cryptocurrency as a gift. If you give away crypto as a gift, you are exempt from paying income tax on that cryptocurrency. Even though you are required to file a gift tax return if the market value of the gift you gave was more than $15,000, the primary purpose of this form is to provide information. Taking this action might seem desperate or illegal but isn't. If, on the other hand, you have a desire to share your financial success with your loved ones and acquaintances, presenting them with a gift of cryptocurrency might be an excellent approach to accomplish this objective.
Beneficiaries are also eligible for certain tax breaks. It is not considered a taxable transaction to receive cryptocurrency as a gift.
Taxes on cryptocurrencies can be straightforward for some individuals, but depending on the nature of the transactions, they can sometimes be nebulous and difficult to understand.
If you are planning to get cryptocurrency, keep in mind the possibility of buying it through various cryptocurrency exchange services, for example, Australian Crypto Exchange service TimeX where you can easily buy and sell crypto. Check the current Ripple price AUD chart and make the right investment. Also, this service provides many advantages for users from Australia, simplifying and speeding up the exchange of cryptocurrencies for them.
If you own a company that accepts crypto as payment for goods and services, it may be helpful for you to hire a tax specialist who will be able to assist you in navigating the more difficult challenges and ensure that you remain in compliance. Keep accurate records of every business exchange and transaction, regardless of whether or not you engage a professional to assist with your finances.