End-of-year Crypto Tax Planning: What You Can Do to Reduce Your Tax Bill
Amid the holiday festivities, a lot of people are tempted to write off the last few days of the year to celebrate with friends and family. But let me encourage you to set aside a few hours over the next few days to do your end of year 2018 tax planning.
Believe me, I know that sitting down with a calculator or tax software to find out what you might owe to the IRS is nobody's idea of a good time. But if you can struggle through it, you might find that you can significantly reduce your tax bill.
This is particularly true for those of you who purchased cryptocurrencies during 2018 at prices higher than they are today. Although your crypto portfolios may have taken a beating, now is the time to take advantage of those losses by using them to offset otherwise taxable gains on your tax return.
So taking the time now to plan your end of year tax moves may result in a lot more champagne and celebrations this time next year.
If you're interested in lowering your 2018 tax bill, read on to learn more about what you can do and what you should ask your accountant—
Quick Disclaimer: This article provides an overview of one applicable tax strategy that could make your crypto portfolio more tax efficient. But before making any decisions you should conduct your own research and consult a crypto tax lawyer and/or a certified accountant to discuss your specific situation. And while this article is geared towards the US tax system, similar strategies can be applied elsewhere.
An Overview of US Crypto Taxation
If you have been trading in and/or using crypto assets this year, you need to understand the tax implications surrounding this asset class. So let's start with the most basic and important tax consideration—how is crypto taxed in the US?
As of 2014, the IRS has classified cryptocurrencies as "property". This subjects crypto investments to capital gain (or loss) along with the associated reporting requirements.
Because cryptocurrencies are property, every time you buy or sell crypto, make a transfer or purchase something with crypto, the IRS requires you to treat the transaction as a taxable event.
This means you must register each transaction amount in its corresponding US dollar value and the date the transaction was completed. That's right, every time you buy a cup of coffee with bitcoin, you're supposed to be converting the amount to US dollars and keeping track of the transaction. And at the end of the year, you're supposed to have all of these transaction records in a spreadsheet for the IRS.
With that information you must then calculate the capital gain or loss overall (with different rules applying to short vs. long term investments) and report all of your gains or losses on your tax return. And of course, you must pay the appropriate tax on your capital gains if you are lucky enough to have any.
As anyone who has complied with these requirements knows, the IRS' crypto accounting requirements are incredibly time-consuming, intrusive, and impractical. But, I'm not here to comment on the justice of these laws, instead I'm here to share what you can do to minimize your tax burden and position yourself for a strong start in 2019.
Considerations for 2018: Tax-Loss Harvesting
With the market at nearly all-time lows, it's been a difficult year for crypto investors. Luckily, there is a silver lining to this, it's called tax-loss harvesting. Here's how it works:
By definition, tax-loss harvesting is the process of selectively selling those investments that have experienced losses in the year. Selling an investment for a loss allows you to realize the loss on your tax return. This enables you to offset some of the taxes you would otherwise owe on your capital gains from other investments that were profitable.
For example, imagine you purchased 1 bitcoin earlier in 2018 for $10,000 USD. Today that same bitcoin is worth $4,000 USD. If you sell your bitcoin you will be entitled to take a $6,000 USD capital loss. This loss will shield otherwise taxable gains you may have from other investments. Moreover, you can sell your bitcoin today and buy it back, so other than some transactions fees you are no worse off if you're still bullish on bitcoin.
The good news is you can use this $6,000 tax-loss to reduce your overall taxable capital gains and even offset up to $3,000 (for married couples, and $1,500 for individuals filing separately) of your ordinary income if you don't have capital gains.
Typically, for most investments, to realize the tax loss, you cannot buy the same asset back within 30 days. Otherwise the IRS will consider it as a 'wash-sale' and undo the realization of the loss. However, in the US, this rule only applies to securities. Since cryptocurrencies are not considered securities by the IRS, you can effectively sell your holdings today and buy them back nearly immediately, while still recording the loss and receiving the corresponding benefits.
However, now that ICOs have been labeled as securities, it is unclear how the IRS will handle wash-sales for tokens like Ethereum. Will the IRS be forced to treat certain cryptocurrencies as property and others as securities? This is an open question industry pundits look forward to getting clarity on.
Although the principle behind tax-loss harvesting is very simple, it is always better to do some planning before using this strategy. I highly recommend you get more information from an expert in the field to see if this strategy will work for you.
Conclusion
Regardless of how you feel about the future of crypto, this might not be the season to HODL. So before you finish up the last of the Christmas cookies, take some time to have a look over your crypto transactions and assess your potential tax liability. With luck, you'll find opportunities to sell your crypto holdings at a loss and receive some tax benefits.
Unfortunately, the laws relating to crypto taxation are complicated and difficult to comply with. And sadly, there are no signs that this will change anytime soon. The onus is on you to understand the laws and to make your decisions accordingly. Like anything, the better you know the rules, the better you can use them to your advantage. | | | Dean Steinbeck, Managing Director of Crypto Law Insider and General Counsel of Horizen (formerly ZenCash) is a legal expert with over 15 years of experience working with cutting-edge technology startups, software development companies, and cryptocurrencies. | | | | | |
