As you hear about family, friends, or colleagues diving into the world of cryptocurrency, you may be wondering whether you should get your feet wet with the likes of Bitcoin as well. If you do, it’s important that you understand what your tax reporting obligations are when dealing with these types of virtual currencies. Here’s a look at how digital currency transactions and taxes work in the United States, based on tax audit reviews.
Virtual currencies function like actual currencies but are not deemed legal tender in the United States. However, virtual currencies that are convertible — like Bitcoin, V-bucks, Ether, and Roblox — can function as real currency substitutes. Cryptocurrency in particular uses cryptography for the purpose of securing digitally recorded transactions on a blockchain or other distributed ledger. All types of virtual currencies may be traded among users digitally and exchanged into other virtual currencies or real currencies, like United States dollars or Euros.
No matter what type of virtual currency you deal with, however, you must report your transactions when you file your tax returns. These transactions include selling/exchanging virtual currencies. When you decide to sell your virtual currency, you have to recognize the capital gain/loss associated with the sale. You can calculate this loss or gain by subtracting your currency’s adjusted basis from the money you received as part of the transaction, or vice versa. Other transactions that must be reported include utilizing virtual currencies to cover the costs of services or goods. Holding a virtual currency as your own investment could also lead to tax liability.
Because virtual currencies are relatively new, navigating virtual currencies and taxes can understandably be overwhelming. However, tax experts can help you to determine what your transactions’ losses and gains are how this will impact your tax situation each year.