Tips for Minimizing Tax on Gains from Bitcoin and other Cryptocurrencies.

Great interest in cryptocurrencies has alerted the US Internal Revenue Service (IRS) which has decided to crack down on Bitcoin and other virtual currencies.

Bitcoin broker Coinbase has already started sharing client information with the government, and the IRS recently issued a warning to those who may forget to report crypto gains on their 2017 tax returns.

The Trump Reform has also made a significant change in the way crypto gains should be reported in 2018. With the big waves cryptocurrencies are making, it is even more important to know what steps you can take in reporting them on your 2017 and 2018 tax returns to offset gains and minimize taxes.

For a general idea of how your Bitcoin, Ethereum, Ripple, Altcoin, or other cryptocurrencies are taxed, please read our previous blog post here.

Despite the above, there are still some tips and tricks you may be able to use to reduce or defer your crypto gains on your tax returns for 2017 and beyond:

1.   Even though 2017 is over, you can still take some positions on your 2017 tax return that will help minimize your gains. One of these methods is to take Section 1031 like-kind exchanges.

If you exchanged Bitcoin for another cryptocurrency, you can use Sec. 1031 to not recognize the gain and, instead, carry over the basis from the original currency. For example, if you bought Bitcoin at $10, and traded it for Ethereum when Bitcoin was at $1,000, instead of recognizing a gain of $990 on the exchange you can have the Ethereum take the basis of $10 and only pay taxes when you trade or use the Ethereum in 2018 or later. With the Tax Cuts and Jobs Act of 2017 this will no longer apply for exchanges made in 2018, but still works for 2017.

2.   Another method that will work for 2017 and future years is to pick which coins you’ve sold. The Senate wanted to include a rule in the Trump Reform that would make you use a FIFO method for selling stocks (and cryptocurrencies). That would mean that if you liquidate crypto, you would need to take the earliest bought units first. The final bill dropped this requirement, which allows taxpayers to choose which units they are transferring or exchanging.

As an example, if you bought five Dash coins for $20 and then bought another three Dash coins later for $50 and just sold some for $75, you can choose which of these coins were sold. This will potentially allow you to defer gain or decide if you want a long-term or short-term gain depending on the dates involved. This is especially helpful if you consider that for 2018 the first $77,200 of LT Capital Gains are taxed at 0 percent for joint filers. With good planning you can really save a lot with this technique.

3.   Another way to reduce your taxes comes from how the IRS sees exchanges of one coin for another as a taxable event. This has a lot of negative aspects, but can also be a great offset tool. Let’s say you bought Bitcoin years ago for $12, and then bought lots of Lightcoin more recently at the November peak, if you only sell your Bitcoin now, you will have a big capital gain to pick up. If cryptocurrency were treated as stock, you would have to sell your Lightcoin to recognize a loss and then, when Lightcoin shoots back up two weeks later, you would miss out on those gains.

But since cryptocurrencies are not like stock, and even converting one for another is a taxable transaction, you have a unique opportunity. The most popular cryptocurrencies generally rise and fall together. Therefore, if you exchanged those Lightcoin for some other cryptocurrency such as Ethereum, you would recognize the loss on the Lightcoin, and two weeks later when Ethereum rises, you would participate in that rise. In the meantime, your loss on Lightcoin would help mitigate the gain you had on your Bitcoin sale.

You do have to be careful of the wash sale rules that would limit you from reacquiring Lightcoin for 30 days after the exchange or it can negate the loss recognition, but that shouldn’t be too difficult to avoid. This is an easy and helpful way to offset some of your crypto gains and make sure to use the volatile rises and falls of your investments wisely.

Cryptocurrencies, more than stocks, seem to have their waves – big gains and big losses. If you plan properly, and use smart tactics with the help of your CPA, you can use both the highs and lows to the best advantage to minimize your tax as much as possible. If you have cryptocurrency exposure, make sure you speak to your accountant about the best ways to treat them, and most importantly, keep meticulous notes of your transactions.

This post was written together with Yaacov Jacob, manager of the Individual & Partnership Department at Philip Stein & Associates.

About the Author
Philip is the founder of Philip Stein & Associates, the largest US accounting firm in Israel, specializing in US taxation of US tax residents living in Israel, and of Israeli individuals and companies doing business in the United States. Offices are in Jerusalem, Ramat Gan and Beit Shemesh. Philip grew up on the South Side of Chicago, and graduated from the University of Illinois, followed by an MBA from the University of Michigan. Philip started his career in the tax department of what today is Ernst & Young. He has lectured at Roosevelt University, Loyal University and Northeastern University, and continued to lecture on international tax issues in Asia, Africa, Europe and North American. He is also a frequent speaker for Nefesh B’Nefesh and has advised the Israeli Treasury, Bituach Leumi and the Knesset on various tax issues affecting US citizens living in Israel. Philip’s love of radio led him to start his podcasts which have attracted tens of thousands of listeners. He continues to be an avid Chicago sports fan as well as a lover of mountain hiking, TRX, and snowshoeing (he likes to keep his feet on the ground!).
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