How to deal with tax surprises on cryptocurrency and NFT investments
By: Christopher Rogers, Senior Tax Partner, Capital Fund Law Group
NFTs (non-fungible tokens) are all the rage and these are the trends in the crypto economy. Although this is a relatively new phenomenon, they continue to gain popularity. With this, a new generation of investors has entered a world that, for the most part, has been seen as untouchable and esoteric. People are now investing their money in these NFTs, and they are changing the value of luxury items such as artwork and collectibles, as well as bespoke content that includes videos, music, GIFs and Moreover. Also, it has been an education for people who invest in crypto as they look for innovative ways to increase their net worth. Those who invest in NFTs and cryptocurrency transactions, however, may not be aware of the tax rules and implications that govern this new class of transactions.
Tax implications of investing in Bitcoin and other cryptocurrencies
Bitcoin, or any other cryptocurrency, is subject to an array of tax implications. Depending on the type of transaction carried out, this will determine whether it is considered a taxable event.
Investors who trade a coin for a capital gain are a taxable event. IRS views cryptocurrency as goods, no currency (although note that the IRS has provided specific guidance on taxing cryptocurrency if it is used to pay wages, which is outside of this article). Regardless of how it is used, investors will owe taxes if the value of the cryptocurrency is more than what you bought.
Each exchange of one coin for another is a taxable event, and any difference between the taxpayer’s base in that coin and the price of the new coin is taxable, usually as capital gains. For example, if the investor bought $ 20,000 worth of ETH in January 2020 and traded that $ 20,000 of ETH for $ 30,000 of BTC in September 2020, the investor would have taxable capital gains of 10 $ 000.
The use of cryptocurrency to purchase goods and services is also considered a taxable event. Even if you buy a cup of coffee from a store that accepts crypto, it is like simply selling crypto trading, stocks, or bonds. IRS website States that “the use of virtual currencies to pay for goods or services. . . generally has tax consequences that could result in a tax liability.
The period of buying and holding a coin is a taxable event that can affect your tax rates. Your income and the length of time you hold the cryptocurrency are the two factors that crypto-asset gains are calculated in the United States. Gains from crypto assets can be both short term and long term, which in turn will determine the crypto tax rate.
As noted above, ETH has been held for less than a year, which means capital gains will be short-term and taxed at regular rates which currently cap at 37%. However, if ETH had been purchased in August 2019, then capital gains would be long-term capital gains rates that capped at 20%. Note that at the time of writing the article, decrees and / or legislation have been proposed that would increase or change the calculation of both ordinary income tax rates and the capital gains rate. long-term.
Taxable events related to DFTs
The most common activities related to DFTs, which are taxable events, include:
- Purchase of TVN;
- Exchange an NFT with another NFT;
- Sell an NFT for cryptocurrency.
Investors generating profits on NFTs through operational activities such as rents, loyalties, fees, etc. constitute another taxable event. Income generated by DFTs is subject to capital gains tax rates of up to 37%. Since NFTs are not converted to cash, investors may face tax consequences even without generating income from NFTs.
How are cryptocurrencies and NFTs taxed, and when?
To date, the IRS has not formally expressed how taxes should be treated for DTVs. Most likely, NFTs will likely have the same tax treatments as cryptocurrencies. The tax rate of an NFT will only determine how long investors hold their assets for short or long term capital gains. Short-term capital gains tax rates apply only to NFTs held for less than one year.
NST is also taxable depending on whether it is an ordinary capital gain or a recoverable capital gain. As clearly defined by the IRS, collectible NFTs are works of art, antiques, stamps, or other tangible property. Therefore, any NFT collectibles held for more than a year by an investor may result in high collection tax rates. Overall, more NFT transactions will amount to complicated tax rates.
For cryptocurrencies, they are taxed like stocks and bonds – which are treated as fixed assets in the eyes of the IRS. When it comes to cryptocurrency tax, investors only owe taxes if you spend or sell cryptocurrencies and have made a profit. On the other hand, if you haven’t made a profit by selling or spending your cryptocurrency, investors won’t owe anything during tax season.
Unexpected Tax Bill – What Now?
If you receive a crypto and NFT investment tax bill, there are a few things you can do. Above all, there is one thing that is not negotiable: ignoring the invoice. Make sure you face the taxes owed and make a plan. See below for some viable options:
Option 1: Sell coins to pay the tax bill
If you are an investor who has cryptocurrencies / NFTs for sale, this might be the obvious answer. However, what if you don’t have virtual currency to sell? If this is the case, the IRS typically allows investors to repay their taxes over a period of six months. To do this, you will need to complete the paperwork provided by your local tax office.
Option 2: Sign up for a payment plan with the IRS
This option only applies if the tax payable is less than $ 50,000. The investor and the IRS will agree on the amount to be paid monthly. To add, the IRS is allowed to approve or deny the payment plan. If the IRS approves, it means the investor has six years to make all future payments. However, it is not recommended to rely solely on this option as it is not guaranteed.
Option 3: Offer in compromise
Defined by the IRS, an offer in compromise allows you to pay off your tax debt for less than the total amount you owe. To qualify for an Offer in Compromise, it is necessary to be based on the various factors:
- Financial situation of the taxpayer
- Amount of debt
- The offer
- Debt occurrence
An offer in compromise is the most difficult to obtain of the options available. You can’t just call the IRS and ask for a deal. This option involves filling out IRS forms, providing financial information, and offering an offer amount.
Option 4: Consult a tax expert and / or a tax lawyer
Overall, investors should meet with a tax advisor (CPA or Lawyer) so that a professional can provide the best advice for your individual tax situation. Keep in mind that there are solutions.
Christopher Rogers, Esq. is a senior tax partner at Capital Fund Law Group, where he advises clients in the areas of investment fund formation, securities law, corporate law and taxation. Mr. Rogers also provides advice on the structuring, establishment and compliance of hedge funds, private equity funds, real estate funds and other alternative investment vehicles, such as digital assets. For more information about Mr. Rogers and Capital Fund Law Group, please visit their website at: https://www.capitalfundlaw.com/
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.