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If you profit from trading cryptocurrency, you must pay tax

On Behalf of | May 3, 2018 | IRS Updates |

In the last six months, cultural awareness of cryptocurrency has become a powerful cultural and economic force. What was once only used to fund untraceable purchases of items on the dark web is now used by some to purchase homes or even fund new business operations. Since the launch of Bitcoin years ago, many other cryptocurrency options have become available.

Only time will tell which ones end up dominating the market and which ones will fade away. Investors have already managed to turn these digital coins into substantial profits. Others have lost substantial investments when the market corrected earlier this year. That is, after all, the nature of speculative investment. Regardless of why you own or trade cryptocurrency, however, you will likely need to pay taxes on your Bitcoins or other digital currency.

The IRS knows about cryptocurrency

Some people are under the woefully inaccruate impression that the IRS doesn’t realize the scale of cryptocurrency investing. The very fact that they have a policy on the profits from these trades proves that idea wrong. Although cryptocurrency transactions take place online and are recorded in a blockchain instead of a bank ledger, the IRS can still count your income from trading cryptocurrency as a source of income.

The IRS considers cryptocurrency as property, which means you likely need to disclose any major holdings you have, even if you don’t intend to cash out your digital coins anytime soon. The good news is that you most likely don’t have to claim your holdings as currency losses or capital assets or gains.

In most cases, the IRS will only need to know the current fair market value of your cryptocurrency holdings, unless you use the digital form of money to pay business expenses, like employee wages. However, because IRS cryptocurrency policies are so new, it is a good idea to carefully review your situation and the current IRS stance on cryptocurrency before you make a potentially serious tax mistake.

Even those that “mine” cryptocurrency must pay taxes

For years, the creation of cryptocurrency was a source of unregulated and often untaxed income. Those with powerful computers can devote server space and computing power toward storing and encoding the blockchain that records all transactions. The reward for the investment of their time and machinery is payment in newly “mined” cryptocurrency coins. That profit must now get reported to the IRS for tax purposes.

If you fail to report your cryptocurrency holdings or you fail to pay taxes on profit generated by Bitcoin, Ethereum or other forms of digital money, you could find yourself facing a serious IRS audit. The end result could be fines and needing to pay back taxes.