How Tax on Cryptocurrency Applies to Miners & Traders
- Capital gains tax reforms for 2018 have changed how the Internal revenue Service applies tax to cryptocurrency
- Traders and cryptocurrency miners need to be aware of how tax on cryptocurrency applies to their specific situation
- For day traders, short-term capital gains tax will apply to every trade. For miners, cryptocurrency is taxed as income
How Traders & Miners Can Avoid the Cryptocurrency Tax Trap
Since 2014, the Inland Revenue Service has classified cryptocurrency as ‘intangible property.’ Moreover, until recently miners, traders, and investors were happy with this classification. This was thanks to a loophole which made tax-free 1031 exchanges possible. (Meaning that coins could be traded for like amounts of other currencies without incurring capital gains tax.)
Sadly, as of December 31st, 2017 like for like cryptocurrency trades are no longer exempt from capital gains tax. Instead, tax is now applicable to every individual cryptocurrency trade and purchase.
How Tax on Cryptocurrency is Effecting Traders & Miners
Capital gains tax rules are a cause of serious contention for cryptocurrency traders.
In the first quarter of 2018, many traders made significant losses. However, new capital gains tax rules require traders to pay tax on any coins which are traded for more than their original purchase price. As a result, many traders now owe more in taxes than they own in actual cryptocurrency.
Tax Law, Cryptocurrency & The Cryptocurrency Mining Community
Slightly different to traders, income which arises through cryptocurrency mining, is taxed just like regular income. However, rates do vary depending on whether cryptocurrency is mined as a hobby or as part of a business.
Mining as a Hobby
The Inland Revenue Service considers cryptocurrency mining a hobby when individuals do not depend on mined profits to make a living. In this case, no setup or incurred business costs are tax deductible.
Mining as a Business
For full-time miners, it will often be beneficial to set up an unincorporated sole proprietorship. In this way, miners can benefit from a reduced tax rate of 10% to 39.6%. (And certain deductible expenses.) Alternatively, miners can also incorporate a business. In both cases, though, it is important to remember that capital gains tax will still apply when mined coins are sold.
How Traders Can Also Qualify for Deductible Business Expenses
One reprieve for cryptocurrency traders in 2018, rests with the fact that they too can claim deductible expenses on future taxes. However, this only applies to traders who qualify for Trader Tax Status (TTS).
What is Trader Tax Status?
TTS allows traders claim home office expenses, write off health insurance premiums, and write of cryptocurrency tax from retirement plan contributions. However, qualifying for TTS isn’t easy.
- TTS traders must trade through an S Corporation. An S Corporation can be set up and administered by an individual, but this can be challenging
- TTS traders must have a net income of $15,000 per year
- Traders must hold cryptocurrency for no longer than 31-days
- TTS traders must be able to show evidence of being able to trade on 75% of available trading days and make an average of 3-4 trades per trading day
Naturally, qualifying for TTS status will not be possible for most novice traders. However, traders who do qualify can stand to save considerably.
The Importance of Accurate Record Keeping
New capital gains tax rules are a thorn in the side of all cryptocurrency traders. This being the case, whether trading as a hobby or professionally, it is of paramount importance to keep accurate records.
Whenever selling or exchanging coins, traders need to accurately record the date, time, coin price, and level of tax payable on transactions. Also, it is strongly recommended that traders with poor liquidity always set aside capital gains tax as trades are executed.