How Cryptocurrencies affect taxes:
I am no tax accountant, and you will need to consult yours for verification of what I’ll tell you, but what I’ll write is based on my outlook and research on the matter, coming in with 14 years of real estate investing experience.
There are two kinds of income you should be aware of. There is capital gains and ordinary income. I’ll address both:
Ordinary Income:
income that is derived from the day-to-day business functions, like a wage you earn from your employer or what you as a business owner earn in the course of doing everyday business. So how does this relate to cryptocurrencies?
Mining:
If you buy a machine that creates coins via mining, you are, in my opinion, earning an ordinary income. This means you should be able to write off the cost of the machine and electricity/upkeep as business expenses; however, the payouts should be noted as income. I would mark the income as a cash equivalent marking the value of the crypto pay out matched with the price of the coin at the time of payout.
Example:
I paid $2,000 USD to buy 15 TH/s of mining power through Hashflare. I get paid 0.002 BTC the first day when Bitcoin price is $15,000. This means my daily payout today is 0.002 x 15000= $30. The maintenance and pool fees add up to 0.0002, or $3. So I note a $30 increase and a $3 expense. I will get taxed on the $27, but only after I have earned more than the $2,000 original investment-a business expense. If the next day, I got a payout of 0.015 and the price of bitcoin went down to $10,000, that would be a $15 payout, etc.
I would keep a ledger with my business expenses as well as my income. At the end of the year, you’ll be able to report what you earned in cash equivalent. I think the IRS would be satisfied with this method.
So what if you don’t exchange your bitcoin for cash immediately and just hold it as bitcoin?
Long-Term Capital Gains:
I invest in real estate. If I hold onto a property for over 1 year, then sell it earning a profit, I get taxed at a lower rate. This is because selling an asset after holding it for 1 year or more is deemed a long-term capital gain. I assume that cryptocurrencies will be treated the same. So from the mining example above, if I were to hold the bitcoin from my mining operation for over a year before selling it, I should be taxed at the long-term capital gains tax, which is 0%, 15%, and 20% depending on my income. I may be wrong, but it’s the right idea. This is another good reason to keep a ledger of when you got your coins vs when you sold them. What if you don’t want to hold them for a year and you’d rather lock in your profits as they’re made?
Short-Term Capital Gains:
A short-term capital gain (capital is just the money or its equivalent in your company’s holdings from what I understand) is when you sell an asset after holding it for less than one year. As an example, if you bought 1 BTC, or even mined 1 BTC, in August 2017 when its value was approx. $3,000 and sold it in December at $19,000 before the downturn, you’d have a short-term gain of $16,000. This amount is taxed based upon your income for the year. This can be as high as 37%, with the new Tax bill that was passed a couple days ago. Almost all tax brackets got a 3% decrease for the lower tax brackets and some increase and some decrease for those making over $400K/year. What this also means is that if you only bought cryptocurrencies this year and never sold one, you have no gains, just as someone who bought stock would not pay taxes on the increase in its value until it's sold.
Once again, you’ll need to get advice from your accountant, but if you’re trading in cryptocurrencies, mining, or just buying and ‘hodling,’ you’ll need to be aware of how to keep track of your assets. We’re in for a wild ride and you can bet your bottom satoshi that the IRS wants our microsats.