Here’s How Taxes Are Harming Bitcoin’s Usefulness as a Payment Method

While most of the early buzz around Bitcoin centered on it as a new, fast, cheap and permissionless method of online payment, the focus has moved from medium of exchange to store of value over the past few years. It’s clear that bitcoin is useful for censorship-resistant payments that may not otherwise be possible without this new technology, but much more of the recent hype has been around tracking the price more than anything else at this point.

Although general activity on the Bitcoin network has continued to rise, a recent report from blockchain analytics firm Chainalysis shows that a growing percentage of this activity is related to trading on exchanges.

There are a variety of reasons as to why the average person on the street is not interested in using bitcoin for payments. For example, the user interfaces are still hard for non-techies to use, network congestion leads to high fees, and price volatility is not something people are used to dealing with in their wallets (at least in most developed countries).

On top of that, one other key issue is often overlooked: capital gains taxes.

Who’s Reporting Capital Gains Taxes on Purchases Made via Bitcoin?

In the United States and many other countries, capital gains taxes must be paid every time an individual uses some of their bitcoin stash to make a purchase, as long as the bitcoin price has gone up since those bitcoin were first acquired.

For example, let’s say someone buys 1 bitcoin when the price is $1,000. This person simply holds that bitcoin for a couple of years, and then it is eventually worth $10,000. If this person goes to the store and purchases a television for $500, they’re effectively selling a portion of their bitcoin holdings at a profit. These gains are supposed to be taxed.

When you imagine this person earning bitcoin on a regular basis and buying something as small as a meal or a coffee every day, it becomes easy to see how keeping track of everything would be quite cumbersome, especially when bitcoin wallets offer pretty much zero assistance in this area at this time.

Even if the buyer and seller involved in a transaction are both bitcoin enthusiasts, it wouldn’t make much sense to make a deal denominated in bitcoin; the tax headache is not worth it.

Instead, it makes much more sense for individuals in places like the United States to simply convert $1,000 or so worth of their bitcoin holdings to the local currency by way of a bitcoin debit card for spending every now and then.

It’s unclear how many people have effectively become tax evaders by accident because they’re spending their bitcoin gains without reporting them. Obviously, those involved in illicit activities tend to be less concerned with the tax implications of using bitcoin for online payments because they’re already attempting to hide these transactions from the authorities anyway.

The Cryptocurrency Fairness Act

So what’s the solution to the usability issues caused by capital gains taxes? One might be through a change in tax law, at least in the United States.

The Cryptocurrency Tax Fairness Act introduced in Congress last year would exempt bitcoin transactions under $600 from capital gains taxation. This means bitcoin users would only have to calculate the tax implications of their bitcoin payments if they’re in amounts greater than $600. Notably, this is the same exemption that already applies to foreign currencies.

The passage of this act would do wonders for the usability of bitcoin for payments by Americans.

Hedging Options Could Also Help

Another useful tool for avoiding tax-related usability issues with bitcoin may be hedging options in wallets. This is already available with Abra.

The basic idea is that you hold bitcoin in a smart contract hedged to U.S. dollars or any other currency to avoid bitcoin’s price volatility. This setup would be useful for anyone who is interested in using bitcoin for payments but not necessarily gaining exposure to the price swings of the cryptoasset.

If someone can hold bitcoins as U.S. dollars, they no longer have to worry about gains or losses whenever they make a transaction; however, they also lose access to the store-of-value properties of bitcoin in this situation.