Bitcoin tax rules explained

Michael Meisler, EY America’s Cryptocurrency Tax Center of Excellence Leader joins the Yahoo Finance Live panel to discuss what constitutes a taxable event when it comes to crypto.

Video Transcript

AKIKO FUJITA: In our Crypto Corner today, we are talking taxes, specifically what constitutes a taxable event when it comes to digital currencies. We've got Michael Meisler. He is EY America's Cryptocurrency Tax Center of Excellence Leader. Michael, a lot of questions in the space, especially because so much is changing. And we've seen it grow at such a rapid rate. Answer the first question for me, though, what is considered a taxable event when we're talking about so many different types of currencies?

MICHAEL MEISLER: So lots of different ways to get there. For those that mine Bitcoin, for example, merely mining it and receiving an award, a reward can be considered a tax-- is considered a taxable event. If you're investing in cryptocurrencies, than any sale or exchange where trading one cryptocurrency for another is also a taxable event. And I know there's a lot of interest in adaptees these days.

And people should also be aware that if they're exchanging cryptocurrency for the purchase of an NFT, then that transaction itself will require that they recognize gain or loss on the cryptocurrency they're exchanging for that purchase.

- Yeah, I want to kind of delve into the nuts and bolts of this. Most people don't think taxes when we're talking Bitcoin here. But, you know, I read the other day that simply buying a Tesla with Bitcoin, which you can now do, that's a taxable event. Because then you have capital gains on it. What kinds of things that are going on, what should people have to watch out for as they manage their nascent crypto investments?

MICHAEL MEISLER: So you hit on it, right. As companies are starting to take, as companies are starting to accept cryptocurrency as payment for goods, just buying that asset will require that you, the taxpayers, calculate the gain or loss on the cryptocurrency that they're using to buy that asset. So that's the first one. The other one, which, for a couple of years, it felt like a lot of people just thought there was the opportunity to exchange one crypto asset for another.

And that's not the case. Any exchange of one asset for another is potentially a taxable gain or loss. And taxpayers have to calculate their gains and losses and report them.

- That's pretty interesting. Another thing that I've noticed is that we have people who are basically losing their Bitcoin. They lose the keys to their wallet. It's essentially gone. Is that-- if that happens, is that a tax write-off? Exactly how would somebody account for that or a corporation for that matter?

MICHAEL MEISLER: That's potentially a problem right now for individuals. After the Tax Cut and Jobs Act, there are some limitations-- there's some additional limitations on taxpayer's ability to claim losses for theft or outside of being in a federally declared disaster area. So that's something people will need to get additional advice about if it happens to them.

If you're holding existing cryptocurrency assets, there are over 8,000 cryptocurrencies out there now. And not all of them have the same value. If your cryptocurrency asset merely becomes worthless, that is potentially a taxable event. And taxpayers can deduct in the year that it becomes worthless. But if it's just loss, that could be problematic as of 2018.

AKIKO FUJITA: Michael, to what extent has the IRS kept up with the wider adoption of cryptocurrencies? And do you get the sense that there could be more guidance coming?

MICHAEL MEISLER: I hope there's more guidance coming. And I believe that there will be. As I was preparing for-- to talk with you today, as recently as this morning, there's an article about a new John Doe summons where the IRS has asked in exchange to provide information about its investors. There's no current obligation for information reporting by the exchanges out there. But that doesn't mean the taxpayers don't have to report their gains and losses.

And the IRS has a couple of initiatives already in place where they are clearly looking for taxpayers that are trying to avoid their responsibilities. They announced-- the IRS announced something they're calling Operation Hidden Treasure a couple of weeks ago, where they are working with their criminal division and their fraud division to find taxpayers that are not meeting their obligations. Because the blockchain that these cryptocurrency trade on, it may not show the name of the individuals trading. But it shows wallets and addresses.

And the IRS can find the people behind them if they work hard enough at it. There's also recently a recent announcement of a bounty on a number of chains that are intended to provide anonymity to the folks that are conducting business on those blockchains. And finally, taxpayers should really be paying attention right now, as they're getting ready to file their 1040s.

The IRS has put right on the face of the 1040 a question asking whether taxpayers have engaged in any sales exchanges, other transactions involving cryptocurrency. It's right there under the address block on the return. You can't miss it. So they are looking for that information.

- Yeah, I definitely did miss it myself. Well, we got you. And this is a-- we got time for one more question here. I got to ask about NFTs, non-fungible tokens. Is that simply a property, like a piece of art that's taxed? Any ins and outs that make this digital-- different from the more analog offerings that we're used to?

MICHAEL MEISLER: So NFTs are the latest in a long range of topics that have come up in this space that we don't have clear guidance for at this point. As I look at it today, as we've looked at it based on the activity we've seen, there's the potential for NFTs to fall into this category, the special category of assets the IRS considers collectibles. And if so, collectibles held for more than a year, when and if they're sold or exchanged, come with a higher tax rate, potentially, of up to 28%, rather than the normal long term capital gain rate of 20%.

So if you're engaging in activities with NFT, it's another area where you really want to talk with an advisor, think about the facts behind that, and think about what rate you should be paying tax on that asset.

AKIKO FUJITA: Michael Meisler, EY America's Cryptocurrency Tech Center of Excellence Leader, a lot of questions there. Certainly, we hope to have you back on the show again soon. Thanks so much for that.