Crypto Taxation in the US and Beyond
Along with the adoption of relevant laws and regulations, a tax system is an essential part of legalizing crypto assets. In this article, we will try to find out why it is so difficult to tax cryptocurrency.
Digital Token Taxation
Nowadays, the issue of cryptocurrency taxation is more relevantthan ever. Because we live in the era of information technology, it is crucial for each of us to understand what is meant by virtual assets and how they are taxed. Unfortunately, it is impossible to answer this question unequivocally, since each country has its own vision of cryptocurrency taxes. Moreover, the very concept of cryptocurrency varies from country to country, or does not exist at all.
Some countries consider cryptocurrencies to be full-fledged money. Others consider them to be a means of mutual agreement and/or digital assets. Many decided pretty quickly that operations with Bitcoin and other virtual currencies should be taxed. Transactions involving crypto, which were once considered guarantors of anonymity, are now completely transparent in many countries, since exchanges are required to comply with laws against money laundering and therefore disclose the personal data of their users.
Rules like these have been in force in the United States since 2014. They obligate crypto holders to pay taxes on capital gains. Since January 1, 2018, all transactions involving digital currency has been taxed. In Australia, the sale and purchase of cryptocurrency is subject to income tax, but its use as an investment is exempt from capital gains tax. Cryptocurrency transactions are taxed in the U.K., which officially formulated its approach to this issue only in December 2018. In Norway, Finland, and Germany, cryptocurrency is subject to capital gains and wealth taxes, while in Austria, it is subject to income tax, as local authorities consider cryptocurrencies to be an intangible asset.
In many countries, cryptocurrency is still outside the scope of regulation. For example, the authorities in France and Italy have not yet developed a firm position on digital currencies and whether or not it is worth taxing them. Others are thinking about removing cryptocurrency from taxation. For example, in early July, the Singapore tax service proposed the cessation of tax on cryptocurrency transactions with VAT. In practice, this will be implemented as of January 1, 2020.
As we can see, for now, there’s a global controversy about crypto taxes. Of course, the presence of at least some regulations in their taxation is better than their complete absence. However, if one country passes an unsuccessful law, it will kill the possibility of normal use.
Crypto Taxation in the U.S.
The U.S. is one of the few countries that has approached the question of crypto taxation very responsibly. In addition to a set of rules from 2014, the IRS recently issued a new guide that explains obligations for payment of taxes on cryptocurrency income. With detailed information, cryptocurrency participants can now understand more clearly which transactions are taxed and which are not. The authors of the guide mainly focus on hard forks (a hard fork uses the source code of any software project to create a new project, and a fork is possible wherever code is used) and airdrops (airdrop cryptocurrency is the free distribution of a cryptocurrency token to numerous wallet addresses). The guide also provides information for people using virtual currency as fixed capital.
Many other outstanding issues remain. The question is how well regulators understand the concept of cryptocurrency. The authors of the guide mix the concepts of airdrop and fork, indicating that the two concepts are functionally interconnected. In particular, Blockchain President Marco Santori has drawn attention to this. He writes on Twitter:
Indeed, the IRS states that there is no taxable profit as long as the forked coin “is not airdropped or otherwise transferred to an account owned or controlled by” the taxpayer. From this, the question arises: Why would forked coins get airdropped post-fork?
It follows that custodians (a custodian is a company that provides cryptocurrency services to large investors) must pay taxes on forked coins. For example, if any cryptocurrency service has private keys for both original coins and forks, then it will have to pay tax, even if it never owned them.
However, the IRS argues that taxable income does not arise if the fork is not obtained as a result of an airdrop or otherwise transferred to an account. In this case, the question is: Why should a fork be obtained only as the result of an airdrop? And what does one concept has to do with the other? Obviously, not everything is already predefined, because there are still questions we would like clearer answers to.
In short, the IRS has reiterated its position that cryptocurrencies should be taxed according to the same rules as any other property or capital gains. There is nothing new in this regard. The main confusion, apparently, is associated with tax obligations after hard forks, and, as a result, the emergence of new cryptocurrencies.
IRS Letters to Cryptocurrency Holders
Today, U.S. investors are facing a new problem: Many have received letters from the IRS with the requirement to supplement previously unpaid tax and to pay fines and penalties. At the end of July, the IRS announced on its website that it had sent letters to approximately 10,000 crypto investors. According to the tax agency, the messages were purely informative and aimed at alerting digital asset holders of taxes they had not paid.
There is also a second type of letter that was sent out later, in August 2019: CP2000 letters. These letters were triggered by a mismatch between the information the IRS received from crypto exchanges and the numbers the crypto investors themselves reported to the IRS. In these letters, the IRS provided the exact amount of money the recipient owed them (according to the IRS). The form the exchanges submit to the IRS (1099-K) doesn’t provide information on capital gains and losses, so there is no way for the IRS to get the right information on your tax liability. That’s why the numbers in CP2000 letters were usually much higher than the correct tax liability of their recipients. Unfortunately, it’s up to crypto investors to prove to the IRS that they are wrong. The CP2000 letters require a response from all recipients. Otherwise, one of the most serious criminal prosecutions awaits them. Lawyers are giving varied advice to people who received a CP2000 letter. Some have advised paying extra taxes, while others believe it is not worthwhile to admit to violations voluntarily. The smartest solution would be to present persuasive proof to the IRS that they are wrong. But with the complexity of crypto taxes, you can’t do it on your own. You need special crypto tax software that will match all your bought/sold coins and give you a clear picture of what your gains and losses look like.
The problem is that in the U.S., as in many countries, there is still no full legal regulation of cryptocurrency. Because of this, even many professionals find it difficult to understand the intricacies of paying taxes on crypto transactions. The most common case involves the purchase of any product with cryptocurrency. The buyer should accurately determine the current value of the currency and compare it with the purchase price. If the current value is higher, the difference multiplied by the value of the purchased goods will be considered capital gains. Cryptocurrency earned as a result of mining (mining as a result of processing complex blockchain operations) is also taxed. The proceeds are considered business income.
Cryptocurrency: Money or Property?
In the world today, there exists a range of basic approaches to defining cryptocurrency for tax purposes. It is either an analog of fiat money, property, or an intangible digital asset.
Crypto is considered fiat in Switzerland and the U.K. It seems that equating cryptocurrency with ordinary money is the most progressive option. This allows you to broadcast approaches that have already been established in relation to “classic” money. It does not require a complex or accurate legislative superstructure. Conversely, any other approach complicates matters. For example, cryptocurrency is used as a means of payment, and the exchange of funds is not subject to additional taxes. But any transactions with property are taxed, and if cryptocurrency is seen as an asset, then for any transaction, you will have to pay additional tax. It is unlikely that anyone will want to pay for goods or services with cryptocurrency, in this case. It is easier to use ordinary money.
One important issue that lawyers all over the world are trying to solve is the rate that should be used to calculate the value of cryptocurrency (and, accordingly, to calculate the tax). There are no recognized indicators today, so several options have been offered. One is to give this question over to the discretion of the taxpayers, who themselves must indicate the rate at which they have calculated their taxes. Then it will be important to establish a certain period during which the rate cannot be changed, (for example, one year). True, tax authorities may still be tempted to say that the taxpayer could change the rate…not for objective reasons, but in order to get tax benefits.
Compliance and Accounting
For tax legislation, it is critical to build a reporting system that can take into account a huge number of transactions. It is not rational to require daily reporting for each operation., Companies would face excessive burdens and tedious tax administration. All of this would be too expensive. Many companies, especially large ones, buy and sell a high number of products and services daily. For each transaction, there is an invoice or other financial document. At the same time, it is important to understand that the cryptocurrency rate is constantly changing. This will also have to be taken into account in some way in reporting. Applying the standard approach, you will get a huge number of reporting files that no tax service will be ready to process.
A new accounting standard is also needed. It is important for companies to show on their balance sheets that they have assets in cryptocurrency. Based on current standards, this is not possible.
Personal Income Tax
If we consider cryptocurrency to be a means of investment, it makes sense to set a minimum threshold for non-taxable income. This was done, for example, in Germany, where the threshold is €600. Most likely, however, people who invest in cryptocurrency will spend more. If the currency is not sold that year, tax for the difference from its revaluation should not be paid. This is an important point, and we believe most countries will have to take it into account.
Personal Income Tax
As we can see, crypto taxes can be a headache, whether you are new to the world of digital coins or have extensive experience. But there’s always a way out. ZenLedger is the easiest crypto tax software on the market. We take care of your taxes for you, so you can relax in certainty that you won’t have problems with the IRS.
If you need help paying taxes, visit our homepage to see how easy it can be!
Originally published at https://medium.com on January 22, 2020.