Smith Brain Trust / April 11, 2023

IRS and Crypto

Revised Tax Form Wording Raises Compliance Stakes for Cryptocurrency Owners

As more than 20 percent of U.S. adults reportedly own cryptocurrency, revised wording on 2022 tax forms, signals that the IRS perceives “a lot of taxable transactions in cryptocurrency that are not being reported,” says Accounting Lecturer Samuel Handwerger, CPA, for the University of Maryland’s Robert H. Smith School of Business. And the wording is in the form of the first question asked on the tax return, as follows:

At any time during 2022, did you: (a) receive as a reward, award, or compensation; or (b) sell, exchange, gift, or otherwise dispose of a digital asset or a financial interest in a digital asset?

“Cryptocurrency owners skipping the ‘yes’ or ‘no’ checkboxes face higher penalties if audited, as claiming ignorance will be more difficult,” notes Handwerger in a recent podcast.

For tax purposes, crypto isn’t currency. It’s an asset for either ordinary gains from mining, staking, employment or rewards or capital gains income from purchases, sales or trades.

Essentially, it’s a taxable event when trading in any way and transacting any business with cryptocurrency.  For example, Handwerger says, buying $100 worth of crypto coin and using that coin at full value to purchase $200 worth of retail goods is like selling property, and thus a capital gain – a short-term gain taxable by up to 37 percent if the purchase is within 12 months of buying the coin. After 12 months it’s a long-term gain taxable by up to 23.8-percent depending on your income bracket.

Likewise, the IRS allows cryptocurrency ‘capital-loss’ write offs – up to $3,000 per year. Additional losses can be “harvested” or carried forward.

“Major [cryptocurrency] exchanges want to ‘be legitimate,’” so “they’re increasingly compliant with IRS rules in reporting their subscribers’ transactions,” Handwerger says. So, for crypto users, assume “your transactions are already being reported to the IRS, and therefore they’re going to look to match the transactions to your return. If they don’t see them being reported, expect to get a letter from Uncle Sam.”

Further, it’s wise to consider that the IRS “may be the best enforcement executive branch or agency of the U.S. government in terms of understanding the deep Web (sites and networks not indexed by search engines and accessible only with specialized software)” and thus capable of tracking cryptocurrency exchanges, dealers or investors operating in this realm, Handwerger adds.

Handwerger’s closing advice: “The IRS says tax filers must ‘keep records,’ so it’s best to record your buys, your sales, your transactions, in a spreadsheet or a ledger – even in a rudimentary form.” From there, he adds, “several software vendors are out there who can take that data for a very modest fee and put it together for you – even directly onto the IRS forms so you can be in 100 percent compliance.”

Prior to joining Smith, Handwerger was a senior tax researcher with Ernst & Young EY in New York and led the tax planning and preparation departments of the CPA firm Handwerger, Cardegna, Funkhouser and Lurman.

He contributes to Neru Lending podcasts via the Finance Videos Network. In addition to crypto taxation, his segments this tax season have addressed filing extension rules and special advice for recent college graduates. He also oversees TerpTax, the University of Maryland-based free tax preparation service for low- to mid-income individuals in the College Park community.

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