IRS Refines Crypto Rules as Tax Season Approaches

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In Brief
  • IRS FAQ #5 clarifies whether taxpayers must claim crypto assets on their tax return.

  • Updated answer says if crypto purchased with real currency, then no.

  • If taxpayers sold or exchanged crypto, they must answer yes.

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The US Internal Revenue Service (IRS) recently updated its Frequently Asked Questions (FAQs) clarifying whether taxpayers must claim crypto assets on their tax return.

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According to the answer given, “if your only transactions involving virtual currency during 2020 were purchases of virtual currency with real currency, you are not required to answer yes to the Form 1040 question.”

Virtual Currency on Form 1040

This year, the IRS is including a question on Form 1040 regarding cryptocurrency. Form 1040 is used for personal income tax returns.

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One particular question asks, “whether at any time during 2020, [the taxpayer] received, sold, sent, exchanged, or otherwise acquired any financial interest in any virtual currency.”

The question’s phrasing left many crypto-holding taxpayers confused. If they answered affirmatively, they could be taxed for their crypto assets. However, a negative answer could potentially result in a falsified report. As the IRS likely received many queries about this question, it naturally added an updated answer in the FAQ.

Further Clarification

Despite addressing this confusion in its FAQs, many crypto-holding taxpayers were still unsure how they should answer. The IRS has never been known for its lucid phrasing.

Fortunately, Crypto Tax Girl tweeted a thread offering further clarification. According to her, taxpayers should answer “yes” if they sold, traded, or spent crypto on goods and services. They should also answer affirmatively if they received an airdrop from a fork, staking or masternode rewards, or crypto as compensation.

However, if they merely bought crypto with fiat, held it, or transferred it between wallets they own, they should answer “no.”

She concluded, “If you’re going to be reporting crypto elsewhere on your tax return, then answer ‘yes.’”

On March 2, investment platform eToro announced it was partnering with Seattle-based ZenLedger. The former enables users to trade cryptocurrency on its platform, and the latter offers virtual currency tax services. The partnership came in light of the inclusion of the new virtual currency question on Form 1040.

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Nick is a data scientist who teaches economics and communication in Budapest, Hungary, where he received a BA in Political Science and Economics and an MSc in Business Analytics from CEU. He has been writing about cryptocurrency and blockchain technology since 2018, and is intrigued by its potential economic and political usage. He can best be described as an optimistic center-left skeptic.

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