This begins the second dive into how the IRS treats cryptocurrency, termed virtual currency by the IRS. At the end of the last dive, we ended on how a taxpayer values cyrptocurrency received for the payment of goods or services.
Today, we begin with how to value the basis or cryptocurrency a taxpayer receives, which is the fair market value of that particular currency as of the date of receipt. And this fair market value is determined by reasonably and consistently assigning the value of the currency as listed on an exchange on the date of receipt. Personally, I would suggest choosing a certain time of day to determine the value of the cryptocurrency received; and maintain that time of day if and when subsequent cryptocurrency payments are received.
Example: Jim accepts Litecoin payments, and has chosen to value the cryptocurrency as it is at 1:00 PM Eastern Standard Time (US) on the day of receipt to set the fair market value. In this example, I would suggest that Jim chooses the same time of day (1:00 PM EST US) to value and subsequent payments received in the form of Litecoin.
Of course, the reason to set the fair market value of the currency received will be to determine gains and losses if and/or when that asset is disposed or exchanged. As is usual with this activity, basis is heavily at play by determining the value of the currency on the day of disposal. A loss will result if the value of the currency on the day of disposal is less than the basis as determined by fair market value on the date of receipt. Conversely, a gain will result if the value on the day of disposal is greater than the basis as determined by fair market value on the date of receipt.
Example: Jim from the last example received 4 Litecoin tokens for the sale of items, and the fair market value at the chosen time that day was $187.00 per token ($748 basis). A week later, Jim disposes of 2 Litecoin tokens when 1 LTC is valued at $225.00. In this instance, Jim would recognize a gain of $76.00 on the disposal of the 2 tokens.
The character of a gain or loss is dependent on whether the cryptocurrency is a capital asset in the hands of the taxpayer. Generally speaking, a taxpayer realizes capital gains or losses on the sale or exchange of these assets which are capital assets in possession of the taxpayer. Another type of gain is an ordinary gain, which is the type of gain that is recognized on the sale or exchange of virtual currency that is not a capital asset in the hands of the taxpayer.
Example: inventory or other property held for sale are not capital assets; and stocks, bonds, or other investment property are generally capital assets.
Next time, we will cover the nuances of cryptocurrency mining and the tax implications involved with that activity.
Until next time.
- Tom
Photo by Marta Branco from Pexels
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