By Andrew D. Schwartz CPA
When the IRS adds a check box on Schedule 1 of the personal tax return asking:
At any time during 2019, did you receive, sell, send, exchange, or otherwise acquire any financial interest in any virtual currency?
…you know they mean business. With more and more people investing in crypto currencies or maybe even using this new type of currency to transact business, the IRS wants to make sure people.
To help people comply with the complex set of rules regarding the taxation of virtual currencies, the IRS complied these 45 Frequently Asked Questions on Virtual Currency Transactions.
Some key Q&As are:
A1. Virtual currency is a digital representation of value, other than a representation of the U.S. dollar or a foreign currency (“real currency”), that functions as a unit of account, a store of value, and a medium of exchange. Some virtual currencies are convertible, which means that they have an equivalent value in real currency or act as a substitute for real currency. The IRS uses the term “virtual currency” in these FAQs to describe the various types of convertible virtual currency that are used as a medium of exchange, such as digital currency and cryptocurrency. Regardless of the label applied, if a particular asset has the characteristics of virtual currency, it will be treated as virtual currency for Federal income tax purposes.
Q2. How is virtual currency treated for Federal income tax purposes?
A2. Virtual currency is treated as property and general tax principles applicable to property transactions apply to transactions using virtual currency. For more information on the tax treatment of virtual currency, see Notice 2014-21. For more information on the tax treatment of property transactions, see Publication 544, Sales and Other Dispositions of Assets.
A3. Cryptocurrency is a type of virtual currency that uses cryptography to secure transactions that are digitally recorded on a distributed ledger, such as a blockchain. A transaction involving cryptocurrency that is recorded on a distributed ledger is referred to as an “on-chain” transaction; a transaction that is not recorded on the distributed ledger is referred to as an “off-chain” transaction.
Q4. Will I recognize a gain or loss when I sell my virtual currency for real currency?
A4. Yes. When you sell virtual currency, you must recognize any capital gain or loss on the sale, subject to any limitations on the deductibility of capital losses. For more information on capital assets, capital gains, and capital losses, see Publication 544, Sales and Other Dispositions of Assets.
Q5. How do I determine if my gain or loss is a short-term or long-term capital gain or loss?
A5. If you held the virtual currency for one year or less before selling or exchanging the virtual currency, then you will have a short-term capital gain or loss. If you held the virtual currency for more than one year before selling or exchanging it, then you will have a long-term capital gain or loss. The period during which you held the virtual currency (known as the “holding period”) begins on the day after you acquired the virtual currency and ends on the day you sell or exchange the virtual currency. For more information on short-term and long-term capital gains and losses, see Publication 544, Sales and Other Dispositions of Assets.