Getting those tax records together for the 2015 filing season? Don’t forget about Bitcoin.
The Internal Revenue Service (IRS) issued guidance to taxpayers in 2014 on how to treat Bitcoin – and other virtual currency – for federal income tax purposes. That guidance, IRS Notice 2014-21, (downloads as a pdf) indicates that Bitcoin and other “convertible” virtual currencies are to be treated as a capital asset. “Convertible” virtual currencies are generally defined as virtual currencies with an equivalent value in real currency or those that act like a substitute for real currency.
For taxpayers, this means that Bitcoin and other similar virtual currency will be subject to capital gains rules for any applicable gains or losses. That treatment does have an upside for taxpayers since capital gains rates are generally pretty favorable to taxpayers. For 2014, capital gains rates for long term gains (those held more than a year) is no higher than 15% for most taxpayers (20% for those with taxable income at or above $406,750 for individual taxpayers; $457,600 for married taxpayers filing jointly or qualifying widow(er); $432,200 for head of household, and $228,800 for married taxpayers filing separately).
And losses are really losses: capital losses can be netted against capital gains and excess losses can be deducted from ordinary income (up to $3,000 each year).
For those buying and selling Bitcoin as an investment, calculating gains and losses are figured the same as buying and selling stock. For those treating Bitcoin like cash – from paying for services to shopping for patio furniture on Overstock.com OSTK +3.47% – individual transactions may result in gains or losses: while the triggering event (the transaction) is easily determined, it may be difficult to figure cost basis – or the holding period – so you may need to do a little bit of digging in your records.
And don’t assume that using Bitcoin to pay for services changes the playing field: normal reporting rules related to bartering, independent contractors and self-employment tax still apply whether you’re paid in virtual currency or cash. This is of particular importance to those who “mine” virtual currency as a trade or business (as compared to an employee); the net earnings from self-employment resulting from those business activities are considered self-employment income and are subject to the self-employment tax.
For purposes of issuing information reports like forms W-2 or forms 1099, the normal reporting rules also apply. Payments of virtual currency required to be reported on a form 1099-MISC or similar should be reported using the fair market value of the virtual currency in U.S. dollars as of the date of payment.
Bitcoin has been around for a few years now. This guidance is admittedly late in coming. As a result, the IRS also made it clear that prior reporting inconsistent with this guidance may be eligible for penalty relief. If you’ve reported Bitcoin on a prior year tax return using a different position, be sure to check with your tax preparer about your options.
And don’t forget about those FBARs: while FBAR reporting is still a few months away (those are due in June, not with your return filed in April), you don’t have to scramble to get extra documents together. For now, the IRS has taken the position that “The Financial Crimes Enforcement Network, which issues regulatory guidance pertaining to Reports of Foreign Bank and Financial Accounts (FBARs), is not requiring that digital (or virtual) currency accounts be reported on an FBAR at this time but may consider requiring such accounts to be reported in the future. No additional guidance is available at this time.”
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