How to file crypto taxes ahead of final 2021 return deadline

What happened

The extended deadline for submitting 2021 taxes (October 17, 2022) is fast approaching. If you still haven’t reported your cryptocurrency activity to the IRS, this is the last day to do so without incurring any penalties.

Key concepts

How are cryptocurrencies taxed?

Cryptocurrencies are taxed as property according to IRS Notice 2014-21. This tax treatment leads to taxable events every time you withdraw, use or exchange one cryptocurrency for another. Earning interest, staking rewards, mining revenue and receiving airdrops are also taxable events.

Investors must pay capital gains tax based on the difference between the sale price of a coin and its cost basis (how much you paid for it). Interest, staking, mining and airdrops are subject to ordinary income tax at the time of receipt.

You should also report cryptocurrency-related losses on your taxes. These losses can offset your income and can increase your overall tax refund.

Crypto is not invisible to the tax man

Many people mistakenly believe that regulators have no visibility into one’s crypto activity because blockchain transactions are pseudo-anonymous (or anonymous). However, this is not the case, especially when it comes to centralized exchanges like Coinbase. The IRS is aware of cryptocurrency activity through exchanges that report to them (via 1099s) and information collected through subpoenas.

1099-Ks & 1099-Bs Report crypto transactions

If you receive a Form 1099-K or Form 1099-B from a cryptocurrency exchange, the IRS likely knows that you have reportable cryptocurrency transactions. This fact is due to the “matching” mechanism built into the IRS Information Reporting Program (IRP).

Here’s how it works. During a tax year, if you have more than $20,000 in income and 200 transactions in a crypto exchange, you will receive a Form 1099-K indicating income for each month. The exchanges are required to create these forms for the users who meet the criteria. One copy of this form is given to the account holder, and another copy goes to the IRS. If you file a tax return and do not include these amounts, the IRS computer system (Automated Underreporter (AUR)) automatically flags these tax returns for underreporting taxes. How to get crypto tax notices like CP2000. If you receive a Form 1099-B or 1099-MISC and don’t report it, the same principles apply.

Therefore, if you receive a tax form from an exchange, the IRS already has a copy of it, and you should definitely report it to avoid tax notices and penalties.

Subpoenas

The IRS also relies on subpoenas to obtain information about non-compliant taxpayers. For example, in 2018, Coinbase had to disclose approximately 13,000 user accounts including taxpayer identification numbers, names, dates of birth, addresses, records of account activity, transaction logs, and all periodic bank statements or invoices (or equivalent) pursuant to a John Doe subpoena. In 2021, the IRS issued subpoenas to Kraken & Circle. In 2022, SFOX was subpoenaed to release information about certain crypto users.

Which tax forms must be submitted?

Form 8949 and Schedule D

Form 8949 is used to report gains and losses on cryptocurrency and NFT. If you receive a complete and accurate 1099-B from an exchange, you can enter these numbers on these forms. If you traded NFTs, you will need to rely on your manual records or connect your hosted (like Metamask or Phantom) wallet to a cryptocurrency tax software to get the numbers needed to fill out this form.

Schedule 1

The amounts reported to you by an exchange on Form 1099-MISC, such as wagering income, interest income, and reward income will go on line 8z of Form 1. You are required to report this income even if you do not receive any tax forms.

Form 1040 Crypto Question

Last but not least, be sure to answer the cryptocurrency question (“Have you received, sold, exchanged, or otherwise disposed of any financial interest in a virtual currency at any time during 2021?”) on the front and center of Form 1040.

If you traded cryptocurrency during 2021, you most likely need to check “Yes” to this broad question. That said, you can safely check “No” if you just;

1) held coins in a wallet during 2021 (hodler)

2) transferred coins from an exchange/wallet you own to another exchange/wallet account you own during 2021.

3) purchased cryptocurrency with USD during 2021.

Next step

• Compile your crypto tax records and submit the appropriate tax forms before the deadline to avoid penalties.

Further reading

Disclosure: This report is for informational purposes only and nothing is intended to be construed as financial or tax advice.