United States Crypto Tax Guide 2024

Author: Patrick Camuso, Managing Director at Camuso CPA

Contents

• Introduction
• US Regulatory Framework for Cryptocurrency
• Estimated Tax Payments
• Buying and Selling
• Mining and Staking
• Airdrops and Hard Forks
• Receiving Crypto as Payment for Goods or Services
• Wrapping & Unwrapping
• Liquidity Provisions
• Lending with Obligation to Return Identical Asset
• Specific Tax Considerations for US Taxpayers
• Accounting Method Selection
• Gifting Cryptocurrency
• Inheriting Cryptocurrency
• Donating Cryptocurrency
• Web3 Entities
• Broker Regulations and Form 1099-DA
• Crypto Tax Enforcement
• Predicting the Future of Crypto Tax Enforcement: 

Focus on Non-Reporters and Accounting Methods

• Sales Taxes
• Desired Regulatory Changes
• Crypto Tax Mistakes To Avoid

Introduction

Within the US, cryptocurrency has become an increasingly prominent financial instrument. While not legal tender, cryptocurrency is widely used for investment purposes, online transactions, and even as a store of value. This widespread adoption has necessitated the development of a clear tax framework to govern cryptocurrency transactions.

The Internal Revenue Service (IRS) classifies cryptocurrency as property for tax purposes, distinct from traditional securities or fiat currency. This unique characterization results in specific tax implications for US taxpayers engaging in cryptocurrency activities.

This section of the report delves into the complexities of US crypto taxation, providing a comprehensive overview of relevant considerations for taxpayers. We will explore various taxable crypto events, accounting methods for digital assets, and specific tax treatments for individuals and Web3 entities. 

Additionally, the report will address advanced tax planning strategies, compliance approaches, and the evolving regulatory landscape surrounding cryptocurrency. 

US Regulatory Framework for Cryptocurrency

 The Internal Revenue Service (IRS) classifies cryptocurrency as property for federal income tax purposes. This classification distinguishes cryptocurrency from legal tender and securities.  As property, cryptocurrency transactions are subject to capital gains tax rules, with significant implications for reporting and tax liability.

Taxpayers engaging in cryptocurrency transactions are required to report these activities on their federal income tax returns. The specific forms used depend on the nature of the transaction, most commonly:

Form 8949 (Sales and Exchanges of Capital Assets): This form is used to report capital gains or losses realized from the sale or exchange of cryptocurrency holdings. The form captures details such as the date of acquisition and sale, cost basis, and sale proceeds.

Schedule D (Capital Gains and Losses): This schedule summarizes the capital gains and losses reported on Form 8949, ultimately determining the net capital gain or loss for the tax year. This net amount is then factored into the taxpayer’s overall taxable income.

In addition to capital gains, income generated from cryptocurrency activities must also be reported. This includes:

Wages and Salaries: Cryptocurrency received as payment for services performed as an employee is reported as wages and must be included in gross income. This income is subject to federal income tax withholding, Social Security, and Medicare taxes.

Self-Employment Income: Payments received in cryptocurrency for services performed as an independent contractor are reported as self-employment income. This income is subject to self-employment tax and must be reported on Schedule C (Profit or Loss from Business) or other realted tax forms depending on entity structure.

Mining Income: Cryptocurrency earned through mining is considered taxable income and must be reported as self-employment income at its fair market value on the date of receipt. It is also subject to self-employment tax.

Staking and Interest Income: Rewards earned from staking and interest received from lending cryptocurrency are considered ordinary income and must be reported at their fair market value when received.

The Financial Crimes Enforcement Network (FinCEN), a bureau of the US Department of Treasury, plays a role in regulating cryptocurrency activity. FinCEN has implemented Anti-Money Laundering (AML) regulations applicable to certain businesses dealing in cryptocurrency.

These regulations primarily target cryptocurrency exchanges and businesses acting as money transmitters. They require these entities to register with FinCEN, implement customer identification and verification procedures (KYC/AML), and report suspicious activity to the authorities. Notably, these AML regulations do not directly apply to individual taxpayers engaging in personal cryptocurrency transactions.

Tax Filing Deadlines

Understanding the various tax filing deadlines is essential for compliance and avoiding potential penalties. Here are the key deadlines for common tax forms:

Form 1040 (Individual Income Tax Return): The deadline to file Form 1040 for most taxpayers is April 15th of the following year. However, extensions can be obtained by filing Form 4868 electronically by the original due date.

Form 1120 (U.S. Corporation Income Tax Return): C corporations generally have a filing deadline of April 15th of the following year. However, corporations with a fiscal year ending other than December 31st may have a different due date based on the close of their fiscal year.

Form 1065 (U.S. Return of Partnership Income): Partnerships typically have a filing deadline of the 15th day of the third month following the close of their tax year. For instance, if a partnership uses a calendar year-end (December 31st), the filing deadline would be March 15th of the following year.

Form 1120S (U.S. Income Tax Return for an S Corporation): S corporations generally follow the same filing deadline as partnerships, which is the 15th day of the third month following the close of their tax year.

Estimated Tax Payments

Estimated tax payments are quarterly installments of income tax liability required for individuals and certain businesses throughout the tax year. These payments help ensure that taxes are paid throughout the year, rather than in a single lump sum at filing time.

Individuals with an expected tax liability exceeding $1,000 after withholding and certain businesses, including corporations and partnerships, may be required to make estimated tax payments.

Estimated tax payments are typically due on the 15th day of April, June, September, and January of the following year.

 Taxable Crypto Events in the US

The unique nature of cryptocurrency presents distinct tax implications for US taxpayers. This section explores various taxable events associated with cryptocurrency activities.

Buying and Selling 

Calculating Capital Gains/Losses: Capital gains or losses on crypto sales are calculated by subtracting the cost basis from the sale proceeds.  A positive result indicates a capital gain, while a negative result signifies a capital loss.

Cost Basis:  The cost basis represents the initial investment in a cryptocurrency asset, including the purchase price and any associated fees. It plays a crucial role in determining capital gains or losses when the cryptocurrency is sold or exchanged.

Short-Term vs. Long-Term Capital Gains Tax Rates: The holding period of a cryptocurrency asset determines the applicable capital gains tax rate. Cryptocurrencies held for less than one year before sale are subject to short-term capital gains tax rates, which are generally aligned with the taxpayer’s ordinary income tax bracket. Conversely, cryptocurrencies held for at least one year prior to sale qualify for long-term capital gains tax rates, which are typically lower than short-term rates.

Mining and Staking

The IRS considers cryptocurrency rewards earned through mining and staking activities as ordinary income. This means these rewards are taxed at the taxpayer’s marginal income tax rate in the year they are received.

In exchange for validating transactions on a blockchain network, miners and stakers receive cryptocurrency rewards. The fair market value of these rewards on the date of receipt is considered taxable income.  Taxpayers should maintain accurate records of their mining or staking activity to properly report these earnings.

While mining rewards are treated as ordinary income, miners may also be subject to self-employment taxes (Social Security and Medicare taxes). This applies, depending on entity structure, if mining activities are considered a trade or business by the IRS.

Airdrops and Hard Forks

Airdrops, where new tokens are distributed to existing holders, may be considered taxable income at the fair market value on the date of receipt. Hard forks, which can result in the creation of new cryptocurrencies, may also be considered taxable income at fair market value on the date of receipt.

Receiving Crypto as Payment for Goods or Services

When cryptocurrency is received as payment for goods or services rendered, the fair market value of the cryptocurrency at the time of receipt is treated as ordinary income.  The taxpayer must recognize this income on their tax return.

Wrapping & Unwrapping 

Wrapping involves converting one cryptocurrency into another form to facilitate use on a different blockchain or within specific DeFi protocols. For example, wrapping Bitcoin into Wrapped Bitcoin (WBTC) on the Ethereum network.

The IRS has not provided explicit guidance on wrapping, but it may be treated as a taxable event. This means that converting Bitcoin to WBTC could be considered a sale of Bitcoin, triggering capital gains or losses based on the fair market value at the time of conversion. 

Taxpayers should report the fair market value of the new token received (e.g., WBTC) and compare it to the cost basis of the original asset (e.g., Bitcoin) to calculate any gains or losses.

Unwrapping is the process of converting wrapped tokens back to their original form, such as converting WBTC back to Bitcoin.

Similar to wrapping, unwrapping may also be treated as a taxable event. The conversion back to the original cryptocurrency could trigger capital gains or losses. Taxpayers should report the fair market value of the original asset at the time of unwrapping and compare it to the cost basis of the wrapped token to calculate any gains or losses.

Liquidity Provisions

 Providing liquidity typically involves depositing cryptocurrency into a liquidity pool on a decentralized exchange (DEX) to facilitate trading and earn rewards.

Depositing assets into a liquidity pool may be considered a taxable event, as it can be seen as a disposal of the original assets and acquisition of a new position in the pool tokens. 

Withdrawal from a liquidity pool can also trigger capital gains or losses based on the fair market value of the tokens withdrawn compared to their original cost basis.

Earnings from liquidity provision, such as fees and rewards, are considered ordinary income and should be reported at their fair market value at the time of receipt.

Lending with Obligation to Return Identical Asset

Lending cryptocurrency through DeFi lending platforms is another common activity with nuanced tax implications.

When a borrower receives a loan in cryptocurrency by putting up collateral, the initial receipt of the loan is generally not considered a taxable event.

If the lender returns a different cryptocurrency or asset as collateral, the IRS may treat this as a taxable exchange. The borrower must report any capital gains or losses based on the fair market value of the different asset at the time of return compared to its cost basis.

If the borrowed cryptocurrency is used for transactions, any subsequent trades, sales, or exchanges will trigger taxable events. The taxpayer must report any capital gains or losses based on the fair market value of the cryptocurrency at the time of the transaction compared to its value when the loan was received.

Any interest paid on the loan in cryptocurrency is considered ordinary income for the lender and should be reported at its fair market value at the time of payment. For the borrower, interest payments may not be deductible unless they qualify as business expenses or investment interest under specific tax rules.

The IRS has not provided explicit guidance on all aspects of DeFi lending, especially concerning the use of collateral, margin calls, and the treatment of potential gains or losses during the lending period. As such, taxpayers should stay informed about updates in regulatory guidance and consider consulting tax professionals to navigate these complexities.

Borrowers should maintain detailed records of all loan transactions, including the amount and type of cryptocurrency borrowed, the date of receipt, the fair market value at the time of receipt, interest payments made, and the date and amount of repayment. Proper documentation ensures compliance with IRS regulations and helps avoid potential penalties.

Specific Tax Considerations for US Taxpayers

Accounting Method Selection

Accurately tracking the cost basis of cryptocurrency holdings is crucial for calculating capital gains and losses on future sales.  The chosen accounting method significantly impacts this process.

The IRS currently considers FIFO (First-In, First-Out) as the default accounting method for cryptocurrency transactions.  This method assumes that the cryptocurrencies sold are the ones acquired earliest.  While simple to implement, FIFO may not always reflect the actual order of disposal, potentially leading to higher reported gains.

For a more accurate reflection of capital gains and losses, taxpayers can elect to use the Specific Identification method.  This method allows taxpayers to identify the specific cryptocurrency units (tax lots) being sold at the time of disposal.  However, the Specific Identification method comes with stricter requirements that are often overlooked:

Clear Designation: Taxpayers must maintain detailed records that explicitly denote the specific tax lot being sold at the time of each transaction.

On-Chain Transparency: The flow of funds on the blockchain network should demonstrably match the specific tax lots reported to the IRS. This ensures consistency between on-chain activity and tax reporting.

Unfortunately, the specific identification requirements have often been overlooked by both taxpayers and tax firms.  At Camuso CPA, we have consistently advised clients of the importance of adhering to these requirements when utilizing the Specific Identification method.

Recognizing this widespread oversight, the IRS issued Revenue Procedure 2024-28. This guidance allows taxpayers who incorrectly reported cryptocurrency transactions using the Specific Identification method to rectify their errors under certain conditions.

Selecting the most appropriate accounting method is essential for ensuring accurate basis calculations.  Here’s a breakdown to consider:

FIFO: Simpler to implement but may not reflect actual disposal order, potentially leading to higher reported gains.

Specific Identification: Offers greater accuracy but requires meticulous recordkeeping, on-chain fund management and on-chain traceability.

A valuable tax strategy for cryptocurrency investors involves segregating assets into separate wallets categorized by tax lot.  This allows for a clearer picture of cost basis for each tax lot and facilitates the selection of specific units for sale when employing the Specific Identification method.

By understanding these accounting methods and the importance of accurate recordkeeping, taxpayers can optimize their tax strategies and ensure compliance with IRS regulations.

Gifting Cryptocurrency

Gifting cryptocurrency can be a generous way to share your digital assets with loved ones. However, there are tax implications to consider for both the giver and the recipient.

 The giver’s original cost basis in the cryptocurrency carries over to the recipient. This means the recipient’s potential capital gain or loss upon selling the gifted crypto is calculated based on the giver’s purchase price, not the fair market value at the time of gifting.

The IRS allows tax-free gifting of cryptocurrency up to a certain annual exclusion amount. If the total value of the gifted crypto exceeds this amount, the giver may be subject to gift tax on the excess amount.  However, a lifetime gift tax exemption allows for a significant amount of tax-free gifting before any tax liability is incurred.

It’s crucial for the giver to maintain clear records of the gifted cryptocurrency transaction, including the date of transfer, the fair market value at the time of gifting, and the recipient’s information. This documentation will be essential if the giver needs to report the gift for tax purposes.

Inheriting Cryptocurrency

 Inheriting cryptocurrency can be a valuable asset received from a loved one. Fortunately, there’s a significant tax advantage associated with inherited crypto.

Inherited cryptocurrency receives a stepped-up basis to its fair market value on the date of the decedent’s death.  This eliminates any capital gains tax liability for the inheriting party upon subsequent sale.  The inheritor’s basis becomes the current market value, effectively wiping out any potential capital gains tax from the time the deceased acquired the crypto.

While there’s no capital gains tax on the inherited crypto itself, the inheritor may need to report the inheritance on their tax return if the total value of the estate exceeds a certain threshold.

Donating Cryptocurrency

Donating cryptocurrency to qualified charities offers potential tax benefits for the donor.

Donating cryptocurrency to a qualified charitable organization generally allows the donor to deduct the fair market value of the donated crypto at the time of the contribution from their taxable income, subject to certain limitations based on the type of charity and the donor’s income level.

Donating appreciated cryptocurrency avoids capital gains tax that would typically be triggered upon selling the crypto. This allows the donor to maximize the charitable contribution while avoiding tax implications.

Ensure the charity you’re donating to is qualified to receive cryptocurrency donations. Some charities may not have the resources to handle cryptocurrency directly. Consider using a Donor-Advised Fund (DAF) that specializes in cryptocurrency donations.  DAFs allow you to donate your crypto to the fund and receive an immediate tax deduction, while the DAF has the flexibility to invest and distribute the funds to qualified charities over time.

Web3 Entities

The decentralized nature of Web3 introduces unique tax challenges for companies operating within this ecosystem.

The Web3 company’s operational activities, such as generating revenue through service fees or royalties, will be subject to income tax. Cryptocurrencies held by a Web3 company may be subject to tax on capital gains or losses when sold.  

The legal structure chosen by a Web3 company will significantly impact its tax treatment.  For instance:

Corporations (C Corps): Treated as separate entities from their owners. Profits are subject to corporate income tax at the entity level, and dividends paid to shareholders may be taxed again as individual income.

Limited Liability Companies (LLCs): Often considered pass-through entities. The company’s profits and losses “pass through” to the individual members’ tax returns, avoiding double taxation.

Web3 companies involved in blockchain development or other qualifying R&D activities may be eligible for the R&D tax credit, which reduces their federal income tax liability.

For Web3 companies granting employees cryptocurrency options or restricted token units (RTUs), an 83(b) election allows employees to recognize ordinary income tax on the grant date rather than when the options vest or the RTUs settle.  This can offer tax benefits in situations where the expected future value of the cryptocurrency is higher than the grant price.

Broker Regulations and Form 1099-DA

Recent IRS regulations have introduced significant changes regarding how cryptocurrency brokers report customer transactions, specifically through Form 1099-DA (Digital Asset Proceeds from Broker Transactions). This form is designed to enhance tax compliance and transparency in the cryptocurrency market by requiring brokers to report key information.

By mandating the reporting transaction details, the IRS aims to provide a clearer picture of cryptocurrency transactions, facilitating better enforcement of tax compliance and reducing discrepancies between reported income and broker data.

The impact of Form 1099-DA on U.S. crypto tax compliance is expected to be substantial. Increased reporting accuracy will enable the IRS to cross-reference transaction data with individual taxpayer returns, minimizing underreporting. Furthermore, enhanced transparency will likely streamline IRS enforcement actions against non-compliance, allowing for more effective identification of discrepancies in taxpayer reporting.

The final regulations have delayed rules for non-custodial providers, such as those participating in decentralized finance (DeFi). Proposed regulations from August 2023 introduced the concept of “effectuating transfers,” which encompasses various DeFi participants, including software wallets and liquidity providers. The Treasury and IRS have indicated their intention to clarify definitions related to non-custodial participants in the near future.

Certain transactions have also been excluded from reporting requirements pending further study, including wrapping/unwrapping, liquidity provision, consensus layer and liquid staking, lending with an obligation to return identical assets among others. This exclusion reflects the complexity and evolving nature of the cryptocurrency ecosystem.

The implementation of Form 1099-DA marks a significant step toward enhancing transparency and compliance in cryptocurrency transactions. However, the complexities of the final regulations necessitate careful navigation and proactive record-keeping by taxpayers and industry participants. As the regulatory landscape evolves, staying informed will be crucial for effective compliance.

Crypto Tax Enforcement

The Internal Revenue Service (IRS) has demonstrably intensified its focus on ensuring cryptocurrency tax compliance.  Recognizing the growing adoption and complexity of cryptocurrency transactions, the IRS has prioritized enforcing tax regulations within this evolving digital asset landscape.

The IRS has taken a more aggressive stance against crypto tax evasion through high-profile enforcement actions.  Cases like those against Frank Alghren III and Roger Ver serve as a clear message to taxpayers about the IRS’s commitment to pursuing crypto tax delinquencies.  These actions highlight the potential consequences for failing to report cryptocurrency income or misrepresenting transactions on tax returns.

To enhance its ability to track cryptocurrency activity, the IRS is actively working with cryptocurrency exchanges. This collaboration facilitates the acquisition of valuable transaction data from these platforms.  A significant development in this area is the introduction of Form 1099-DA.  

This form, expected to be more widely used in the coming years, requires cryptocurrency exchanges to report details of customer transactions to the IRS.  This will significantly improve the IRS’s ability to identify potential tax non-compliance.

Enforcing crypto tax laws presents unique challenges for the IRS. The inherent pseudonymity associated with certain cryptocurrencies and the existence of foreign exchanges can create obstacles for tracking transactions.  However, the IRS is not without resources.  

Programs like the Joint Chiefs of Global Tax Enforcement (J5) allow for international data sharing and collaboration with tax authorities in other countries.  This collaborative approach strengthens the IRS’s ability to identify and pursue crypto tax offenders, even if they operate outside the US.

Predicting the Future of Crypto Tax Enforcement: 

Focus on Non-Reporters and Accounting Methods

Expect the IRS to leverage advanced data analytics to identify taxpayers with cryptocurrency holdings who haven’t reported income from these assets. This could involve matching data from cryptocurrency exchanges (through Form 1099-DA or other sources) with tax returns to identify discrepancies.

The IRS may prioritize enforcement actions against taxpayers with significant unreported cryptocurrency income, particularly those demonstrating a lavish lifestyle inconsistent with their reported income.

The IRS may increasingly monitor social media platforms to identify individuals publicly discussing their cryptocurrency activities. These discussions could be used as evidence of unreported income.

In addition to non-reporters, the IRS is likely to prioritize identifying taxpayers who incorrectly used Specific ID accounting method without proper recordkeeping and on-chain traceability. This could lead to audits, adjustments, and potential penalties. The IRS may also increase scrutiny of tax preparers who have advised clients to misuse Specific ID. Penalties could be imposed for negligence or intentional disregard of tax regulations.

The IRS may also dedicate resources to scrutinizing the accuracy of cost basis calculations overall, particularly for taxpayers who have been actively trading cryptocurrency over a long period. Inaccurate cost basis calculations can significantly impact reported capital gains or losses often times across several tax years.

The IRS is actively embracing technological advancements to strengthen its crypto tax enforcement capabilities while partnering with software providers and tax professionals to efficiently implement audits and analysis.  This multi-pronged approach involves leveraging existing accounting software solutions, utilizing blockchain analytics tools, and fostering collaboration for innovation.

Sales Taxes

While the primary focus of this report is on the federal income tax treatment of cryptocurrency, it’s important to acknowledge the potential sales tax implications associated with NFTs (Non-Fungible Tokens) and other on-chain transactions, depending on specific circumstances and state regulations.

Many states currently impose sales tax on digital products and services, including downloadable software, e-books, and online subscriptions.  The application of sales tax to NFTs and other on-chain transactions depends on how the state classifies these assets.

The classification of NFTs for sales tax purposes varies by state, creating a complex landscape. 

Some states, like Washington, have taken a proactive approach by issuing guidance specifically addressing NFTs. Washington considers NFTs to be digital assets associated with retail sales, subjecting them to the state’s sales tax in certain circumstances.  This includes NFTs linked to downloadable content, artwork, or other transferable goods or services.

While Washington is a notable example, other states may also be grappling with the tax treatment of NFTs. 

States that already impose sales tax on digital products may be more likely to extend this tax to NFTs. There are currently over 30 states that currently impose sales taxes on digital products such as music or e-books. NFT sellers may currently be liable for sales tax in these states based on this existing guidance but this is unclear and should be discussed directly with your tax advisor.

We’ve seen several states including Washington, Minnesota, Michigan and Pennsylvania take steps in clarifying when sales tax applies to digital assets and NFTs. These updates are interpretations of existing laws that could be applied both retroactively and prospectively.

Like Washington, the specific circumstances surrounding an NFT transaction can influence its sales tax treatment in other states. Some factors to consider include:

Underlying Utility: If an NFT grants access to exclusive content, membership benefits, or other utilities, it may subject to sales tax based on the underlying utility.

Physical Goods Connection: If an NFT is tied to the receipt of a physical good, sales tax would likely apply to the total transaction value, including both the NFT and the physical good.

Sales tax may also apply to other on-chain transactions depending on their nature.  For instance, the purchase of a ticket to an event using cryptocurrency could be subject to sales tax in certain jurisdictions.

While federal tax treatment for cryptocurrency is a central focus, taxpayers should also be mindful of potential state and local sales tax implications associated with NFTs and other on-chain transactions.

Desired Regulatory Changes

The landscape of cryptocurrency taxation is constantly evolving, with federal and state authorities grappling with the unique challenges posed by this new asset class. The Internal Revenue Service (IRS) and various state governments are actively developing and refining regulations to address the taxation of cryptocurrency activities.  

New guidance, pronouncements, and enforcement actions are likely to emerge as the IRS gains a deeper understanding of the cryptocurrency ecosystem.  Taxpayers and professionals must stay informed about these developments to ensure compliance with the latest regulations.

One potential change that could benefit both taxpayers and the government is the implementation of a de minimis threshold for cryptocurrency spending.  This threshold would exempt small-dollar cryptocurrency transactions from taxation, aiming to:

Promote Crypto Use: A de minimis threshold could encourage broader adoption of cryptocurrency for everyday purchases by reducing the administrative burden associated with tracking and reporting micro-transactions.

Reduce Taxpayer Burden: For taxpayers who engage in frequent, low-value crypto transactions, a de minimis threshold would minimize the time and effort required for tax reporting purposes.

Alleviate IRS Burden: The IRS could benefit from a streamlined approach to micro-transactions, allowing them to focus on larger, more complex crypto tax issues.

Determining the appropriate de minimis threshold would require careful consideration. It should be high enough to be meaningful for taxpayers but low enough to prevent abuse of the exemption for high-volume, low-value transactions.

Additionally, I would like to see further clarification from the IRS on several transaction types, as their complexity and evolving nature warrant more explicit guidance to ensure compliance and understanding. This includes wrapping and unwrapping, liquidity provisions, consensus layers, liquid staking and lending with an obligation to return identical assets.

Crypto Tax Mistakes To Avoid

Cryptocurrency taxes and accounting are highly complex, with over 90% of cryptocurrency portfolios and tax returns reviewed by Camuso CPA containing errors, incorrect tax interpretations, or missed opportunities. Through consultations with hundreds of new cryptocurrency investors and businesses each year, common mistakes have been identified that can cost significant money and time.

Many crypto investors mistakenly believe they can avoid reporting or underreporting their cryptocurrency transactions. Despite the pseudonymity of DeFi and NFTs, the IRS and other authorities have sophisticated methods to trace transactions and associate them with taxpayers. The blockchain’s immutable and public nature means that the IRS can use centralized exchange reports, international partnerships, and blockchain analysis software to track down unreported or underreported activities. Investors and businesses attempting to evade taxes by not reporting crypto transactions are prime targets for IRS audits.

Each market cycle in the crypto markets leads to many taxpayers inadvertently increasing their tax liabilities by failing to protect their tax payments from cryptocurrency volatility. This error can bankrupt businesses or decimate an investor’s portfolio. When generating income or capital gains from cryptocurrency, it’s crucial to immediately convert enough of the proceeds into USD or stablecoins to cover the anticipated tax liability. For example, if a company earns in ETH when ETH, it should convert its estimated tax liability to USD to cover the tax liability. If ETH’s value drops significantly before the tax payment, the company would otherwise have to liquidate more ETH to cover the same tax amount.

Accurate documentation is key in tax reporting, as errors can result in significant tax penalties. It’s crucial to maintain thorough records of all transactions, including accurate cost basis calculations. Investors and businesses should save their historical trade activity from all exchanges and wallets at least quarterly to avoid retrieval issues at year-end. Many taxpayers fail to track their cost basis properly, leading to compliance issues and higher taxes.

Many investors establish entity structures like LLCs, Partnerships, and S-Corporations without proper tax planning with an experienced crypto CPA. This can lead to significant tax issues and compliance problems, resulting in overpaying taxes. Proper tax planning is critical even when it makes sense to form an entity, as mismanagement can still lead to significant issues.

Investors often mistakenly trade company crypto assets under personal exchanges or wallets, creating accounting and tax challenges. Separating personal and business transactions manually is cumbersome and may lead to incorrect tax reporting. 

It’s essential to avoid commingling personal and business funds. Set up personal exchange accounts using your social security number and separate business accounts using your employer identification number. Similarly, use dedicated wallets for personal and business use. Additionally, avoid trading cryptocurrency on behalf of family or friends, as it complicates accounting and tax reporting, potentially leading to overpaying taxes and significant compliance issues.

In summary, understanding and avoiding these common mistakes can save cryptocurrency investors from significant financial and compliance pitfalls. Proper tax planning, accurate record-keeping, and consulting with experienced crypto CPAs are crucial steps for effective and compliant cryptocurrency investing.

The tax treatment of crypto assets in the US continues to evolve as the market matures, reach out to Camuso CPA at [email protected] to find out more!

Contact: [email protected]

Check out the full 2024 Global Crypto Tax Report too.