Crypto Assets And The IRS: Understanding Bitcoin Taxes And How To Calculate Profits And Losses
One of the most confusing things regarding cryptocurrencies is taxes. While there is a lack of any real regulations in most countries around the world, governments have still found a way to introduce crypto taxation, and take advantage of traders who are making a profit by dealing with digital currencies.
Furthermore, those who have failed to report their earnings and pay taxes in recent years will likely have to pay large tax liabilities, such as penalties, interest, and more. This is especially true for investors who started dealing with crypto in 2017 when Bitcoin and altcoins finally surged to outstanding heights.
While the large market volatility means that traders and investors will potentially have to pay large taxes, the entire process remains very confusing for US taxpayers.
Tax Evasion And Penalties
Back in May 2018, it was believed that the US might introduce a new voluntary disclosure procedure, as stated by the Department of Justice attorney. However, prior to that, in November 2017, IRS' Daniel Price stated that no such program regarding unreported income in regards to cryptocurrencies would arrive.
The conflicting statements were confusing the taxpayers, although many realized that the IRS is not likely to provide a voluntary disclosure program for those who failed to report their crypto-based income. While unlikely, this still exists as a potential option that might be realized someday. It is, however, important to note that, even if such a program gets presented to the taxpayers — they will likely not gain immunity from prosecution, or even avoid penalty.
The only way of avoiding penalties for failing to report taxes is to provide a good enough reason for doing so. Otherwise, taxpayers might be charged with tax evasion. If convicted of tax evasion, it is possible for a person to get a five-year-long prison sentence, as well as a $250,000 fine. The penalty for filing false returns is similar, with a fine of $250,000 and a three-year-long prison term.
Taxpayers may still consider using a voluntary disclosure program on a state level, as many of the US states do provide one.
The IRS Under Fire
The legal situation regarding cryptocurrencies in the US remains difficult to navigate, as there are no official tax legislation passed by the Congress. However, there is also a lack of any type of proper guidelines introduced by the IRS. This is something that the Internal Revenue Service received a lot of criticism for.
The only thing that they managed to provide is Notice 2014-21, which offers answers to sixteen questions, and nothing apart from this notice was provided to US taxpayers regarding cryptocurrencies by the IRS. The Service seemingly increased their efforts in late 2016 by demanding that Coinbase introduces strict KYC procedure and gather information about half a million customers.
The information, as instructed by the Court one year later, has to include the ID number of the customer, their name and date of birth, as well as address, account activity details, and periodic statements regarding the account or potential invoices. The Court also decided that this should only affect accounts that have made a minimum of $20,000 per single transaction type per year between 2013 and 2015, whether it is buying digital coins, selling them, receiving from others, or sending them to others.
Then, in March 2018, the IRS reminded the US taxpayers that cryptocurrencies are subjected to taxation by issuing Information Release 2018-71.
Following this, in September 2018, several lawmakers decided to ask for the investigation of why the IRS failed to issue tax-related guidance that would clearly provide taxpayers with information on what is required of them. Similarly, a report from 2016 also criticized the IRS, pointing out the lack of guidance, but also the absence of a strategy that the Service has shown.
In October 2018, however, IRPAC published its own report, providing several recommendations regarding tax reporting, as well as pointing out issues and expressing concerns about the matter.
Meanwhile, no new guidance has appeared coming from the IRS, meaning that there is still no change. While the popular opinion is that the IRS should be criticized, the Service has also been dealing with several other critical issues in recent years. One of the biggest problems is the reduction in funding that it received.
The IRS budget was reportedly cut by as much as 17% since 2010 when it was adjusted to fit the inflation. The smaller budget resulted in a reduction of the IRS workforce, which resulted in delays regarding their work. A 9% increase arrived in 2017, which was quite helpful. However, the funding was still lower than that prior to 2010.
How Can Investors Calculate Their Taxes?
As mentioned, filing taxes in the US is known for being complicated, even when it comes to regular taxes. The process is even more difficult when it comes to taxes on profit made by trading cryptocurrencies, where income is not clearly defined, and large price volatility changes what you earn. Fortunately, however, there are several tools that can help with calculating crypto-based taxes and making the process easier on traders and investors.
One such tool is called Bitcoin Taxes, and it is actually one of the oldest tax calculators for cryptocurrencies. It is very useful and popular to this day, and it imports traders information regarding their sales and purchases throughout the year. This information arrives from different exchanges, which allows traders to calculate their taxes at once, no matter how many exchanges they used in the previous year.
The tool does calculations pretty much automatically, and it provides a report that contains the net profit, as well as a loss that the trader has experienced. It also works for numerous countries apart from the US, including Japan, Australia, Canada, and the UK.
Another similar tool is Coin Tracking, which can import data from more than 70 exchanges. After that, it calculates the user's tax obligation and provides a clear summary of the collected data.
Apart from Coin Tracking, there is another tool that has a similar name — Coin Tracker, This is a tool that works with Coinbase, and it can obtain and present a complete transaction history of the user. Coinbase also announced that it would help its customers with their taxes by partnering up with a tax filing platform called Turbo Tax. However, since Coinbase features several platforms, such as Coinbase Pro, users will still have to use Coin Tracker to gather the data from different platforms.
Coinbase is also offering a guide on taxation, as well as its own calculator that its customers can use to make their calculations.
Another calculator that crypto traders might consider is called Libra Tax. This tool can estimate gains and losses by analyzing the user's activities, and its software can obtain information from multiple exchanges. The software allows the use of a calculator for free as long as users have up to 500 transactions, while the premium service, achieved through subscription, allows tracking of 5,000 transactions at once.
Next, there is Zenlender, which is also connected to major exchanges and it can retrieve the necessary user information in order to calculate taxes and provide a report regarding capital gains, income, loss and profit statements, and other details. It should be noted that this is a paid service and that subscription costs around $149. After subscribing, users can process up to 500 transactions.
Finally, there is Tax Token, which is a relatively new firm which can help users with calculating their crypto taxes. The company also creates different products for crypto exchanges, wallets, trading platforms, and alike. Their newest tax-calculating software uses the AI to make the process automatic and precise.