2021 was a big year for crypto. At least 13% of the entire American population bought and traded crypto, according to data published by NORC, a research group at the University of Chicago. With the new fame and popularity recorded in the crypto space, several crypto coins soared to record all-time highs, with many investors recording gains on their earlier invested capital.
However, as much as crypto enthusiasts might argue about the independence of crypto from traditional finance and its rigorous checks and balances, just like its TradFi counterpart, it is still very much subjected to U.S. tax laws. So, if you made a profit from trading or selling any crypto product in the last year, it is time to prepare your tax report and pay your fair share to the IRS.
What Are Capital Gains?
Capital gains refer to the increase in value of a capital asset after it is sold in a financial market. In simpler terms, investors get capital gains when they sell an asset for a profit. All capital assets like stock, bonds, real estate, and in this case crypto could accumulate profits and therefore be subject to capital gains taxes from the IRS.
How Much Do You Owe The IRS?
If you have traded crypto and made gains in the past year, then you owe the federal government some capital gains tax on your crypto profit. Although there has not been a definite regulation on crypto-assets and their corresponding crypto accounting taxes, the rate has ranged between 0% and 37% over the past year with higher taxes for traders with a higher income. However, the amount of taxes you owe depends on factors like:
- How long you held your crypto asset before selling it: long-term gains and short-term gains are taxed differently by the federal government.
- Annual income bracket: The federal government taxes its citizens depending on which income bracket they are in. Your annual income includes revenues from all sources.
- Profit or loss made from selling your crypto asset: Your taxable income depends on the cost basis of your sold crypto asset. You can determine your profit by subtracting the cost basis of the crypto asset from its sales price. A high-cost basis often translates to a lower profit, but you can be extra sure by using suitable tax software to calculate your profit or loss on every crypto transaction within the year.
Long-term Gains, Short-Term Gains, And Tax Rates
As discussed above, your tax rate depends on several factors, including your overall income and whether you made short-term or long-term capital gains within the year. We will further explain the difference between long-term and short-term gains below:
Long-Term Gains
Long-term capital gains are derived from assets that are held for more than one year before they are disposed of. According to Investopedia, a leading financial resource website, Long-term capital gains are taxed according to graduated thresholds for taxable income at 0%, 15%, or 20%. In traditional assets, the tax rate on most taxpayers who report long-term capital gains is 15% or lower.
Short-Term Gains
Short-term capital gains are derived from the sale of an asset owned for one year or less. While long-term capital gains are generally taxed at a more favorable rate than salary or wages, short-term gains do not benefit from any special tax rates. Short-term capital gains are taxed just like ordinary income, with rates reaching as high as 37%, depending on which tax bracket you fall into.
In sum, consulting a cryptocurrency tax advisor or engaging a tax accountant is the safest bet when preparing your tax returns. They could help and advise you on the right accounting software as well as minimize your tax liability from capital gains by advising you on important strategies like tax-loss harvesting, proper trading records, best accounting methods, and more.
Author Bio:
Mark Robert is a Crypto tax accountant and founder of Results Tax Accountants. His blog at http://www.ResultsTaxAccountants.com/blog gives free info to help you cut-your-crypto tax. The firm specializes in helping small business, individuals, those who need cryptocurrency consulting, tax and accounting services. He’s on a mission to help individuals and businesses eliminate tax and accounting headaches, stress and reduce their total tax burden.