Cryptocurrency has jumped to the forefront of personal finance news in 2020, and the IRS has noticed. If you acquired any crypto in 2020, you’ll want to declare it in your tax form, as the agency warned that this year they’ll crack down on investors used to fudging how much they owe.
The IRS is ‘setting the trap’ in your tax form this year
The new IRS form makes declaring crypto unavoidable, as this simple yes or no question is at the top of your Form 1040: “At any time during 2020, did you receive, sell, send, exchange, or otherwise acquire any financial interest in any virtual currency?”
CPA Ryan Losi, says in an interview with CNBC:
When you sign the form, it’s under the penalty of perjury. The IRS is just gathering the data, changing the forms to expressly say you did or didn’t, and setting the trap, so in the coming years, the hammer can come down.
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The other problem is that even when you think you’re in the clear, your undeclared crypto investments can come back to haunt you. For example, if a crypto exchange issues late 1099 forms as the result of an audit, the IRS will be alerted to your investment. Failure to pay taxes on crypto gains could lead to tax evasion penalties, and possibly criminal charges of tax evasion or filing a false tax return, according to the IRS.
Do I need to answer “yes” to the IRS crypto question?
The IRS considers crypto to be property, not income, which means you have to declare existing crypto on your tax return when you withdraw it from your account, sell it, or trade it. Otherwise, you don’t have to pay capital gains tax on crypto if you don’t do anything with it.
However, there’s some ambiguity on crypto that is merely held, too. As Gordon Law Group advises:
Holding is virtually the only cryptocurrency activity that’s not specifically mentioned in the question—and therefore does not require you to check “yes.” However, be mindful that if you received any airdrops, that is considered “acquiring financial interest in virtual currency”; in this case, you must answer “yes” and report the airdrop(s) as income.
Since there’s some debate about what constitutes “holding,” and whether to answer “yes” to the question, you’ll want to consult with a tax professional about your situation, to be sure.
How much taxes will I owe?
Under U.S. tax law, crypto is subject to capital gains taxes, but you only owe taxes when those gains are realized or sold. If you sold the crypto less than a year after acquiring it, any profit you made is considered a short-term capital gain and is taxed as ordinary income. This tax will range from 10% to 37%, depending on your tax bracket for 2020.
Any profit from a sale of crypto that’s held for more than one year will be a long-term capital gain taxed at a rate of 0%, 15% or 20%, depending on your income. Also, any conversion of the currency to cash or a trade between cryptos is considered a “taxable event” which will incur a capital gains tax.
If you lost money on crypto in 2020, the one consolation is that you can at least declare the loss in your taxes and use it to offset other gains—up to $3,000 in your adjustable gross income, thus reducing your tax bill. For this reason, you’ll want to keep good records of your trades, even if they’re losses. Records should include the market value of your crypto when it was purchased, and when it was used, sold, or cashed out.
