Cryptocurrency, or crypto, as it’s often abbreviated, has gained increasing attention and legitimacy over the past decade. And in light of recent economic issues, interest in crypto is surging, a trend that is likely to continue.
Crypto’s status as a financial instrument is not quite “as good as cash,” though it’s not far off.
But no one is quite sure how to deal with crypto. Including the government.
How The US Government Currently Taxes Cryptocurrency
If you’re not familiar with cryptocurrency, its value is indeterminate from moment to moment. And in this sense, crypto is primarily viewed more like a stock or any other asset tied to an index.
As such, the government views cryptocurrency exchanges the same as selling any other asset. Thus, rather than being charged a sales tax, you’re assessed capital gains taxes equivalent to the value of whatever you exchanged for crypto.
For example, if you buy a used boat for $10,000 with crypto, you’re assessed $10,000 in capital gains.
Obviously, this makes taxes on crypto purchases much higher than straight cash transactions.
Plus, if you’re holding a store of cryptocurrency that markedly increases in value (however such things are measured? Which is another problem with crypto taxation…), you’re responsible for paying capital gains just as you would on stocks, gold, or any other tradable asset.
These are both factors that beg the question: Why trade cryptocurrency? The answers speak the broader state of our economy…
Why Artificial Economic Stabilization Makes Cryptocurrency Attractive
As the pandemic ranges on, the government is working overtime to stabilize the economy with a cavalcade of stimulus funding packages, stimulus payments, and subsidized lending programs.
Some folks object to this government-funded infusion, claiming it’s tantamount to socialism. While other praise these efforts, noting that many small businesses, along with individuals and families in the lower-income strata, would likely plunge into financial ruin without this support.
Another troubling facet of this situation is the source of current government capital. Since the Obama era and through the Trump administration, the government has essentially been printing money to fund its economic stabilization campaign.
The treasury has printed 40% of all US dollars currently in circulation over the past 12 years. And the treasury printed nearly $5 trillion in 2020 alone.
Now, from a classical economic perspective, artificially “juicing up” the economy by printing money leads to inflation. But while pricing on goods and services is trending upward, we’ve seen little in the way of marked inflation (outside the housing market, which is also influenced by interest rates the government has long been holding at historical lows).
There is a general consensus, however, that printing money to support the economy will, sooner or later, destroy the value of US currency.
And in light of this potential outcome, cryptocurrency is suddenly a much more attractive option than holding onto cash.
How to Minimize Crypto Exchange Taxes
You can’t avoid crypto taxation if cryptocurrency becomes part of your asset mix. So, as with most asset management, your best approach is a proactive tax strategy.
And toward that end, here are six suggestions to help minimize cryptocurrency taxation.
1. Hold Crypto Assets Until They Can Be Claimed As Long-Term Gains
Long-time capital gains are taxed at a much more favorable rate than short-term gains. So, if you’re in a position to hold onto your cryptocurrency until it counts as a long-term gain, you’ll realize significant tax savings.
2. Offset Crypto Gains With Capital Losses
As with other assets, you can count losses on cryptocurrency exchanges against gains on other crypto exchanges or other assets.
3. Exchange Crypto Assets in a Low-Income Year
If you’re holding your cryptocurrency for a long-term gain conversion and happen to earn less in a particular year, this could be a good time for a crypto exchange.
Your crypto exchange counts as regular income. But given that your overall income is lower, the crypto gain is unlikely to push you into a higher tax bracket.
4. Reduce Your Taxable Income
Financial maneuvers, such as opting for expensive tax-deductible medical producers, maxing out contributions to IRAs + 401(k) plans, and charitable donations can minimize your overall income. And this in turn offsets the impact of your crypto exchange.
5. Gift Your Crypto to a Family Member
The IRS allows you to gift up to $15,000 per year to an individual tax-free. Of course, there will be tax liabilities for the recipient when they eventually exchange your gifted crypto. But there will be less impact if they’re in a lower tax bracket.
6. Donate Your Crypto to a Charity
This move actually helps you on two fronts. First, by donating your crypto to a charity, you’re relieved of any taxes on gains. And secondly, as a charitable donation, it counts as a tax deduction that could be quite large depending on the value of your donated cryptocurrency.
Have Questions About Cryptocurrency Taxation?
For a variety of reasons, cryptocurrency is here to stay. And crypto’s use is only going to grow in prevalence.
Are you already dealing with crypto, on the verge of a crypto transaction, or considering one? If you have questions, I urge you to get in touch for a FREE consultation!