IRS Requires 2021 Tax Filers to Answer a Crypto Question

Today is the deadline for the overwhelming majority of U.S. taxpayers to file their state and federal taxes, and the IRS wants to know if you bought or sold crypto in 2021.

Today is the federal and state tax deadline for most American taxpayers to either file their respective 2021 tax returns or request a filing extension. For the second year in a row, the IRS has a cryptocurrency question on Forms 1040, 1040-SR, and 1040-NR that all current tax filers who use those forms must answer.

The IRS placed the question near the top of the form, immediately below the section where a filer enters their name, address, and Social Security information. The specific crypto question reads: "At any time during 2021, did you receive, sell, exchange or otherwise dispose of any virtual currency?"

It's a yes or no question, but do you know how to answer it? The IRS has a fairly comprehensive FAQ section and other resources to help you or your tax prep professional answer this important question. The IRS is looking to get its share of tax revenue from crypto and non-fungible token (NFT) transactions, so if you answer the tax question incorrectly or falsely, it could trigger an audit as well as tax penalties and fees. The IRS provides the following guidance to taxpayers, but be sure to discuss your specific situation with your tax advisor or accountant.

When taxpayers can check "No"

Last year if you simply owned virtual currency the IRS website states that you can check the "No" box on the various 1040 tax forms if your crypto actions were limited to the following activities:

• Simply holding digital currency in your own wallet or account.
• Moving crypto tokens, coins, or NFTs between your own wallets or accounts.
• Purchasing cryptocurrencies using U.S. dollars or digital payment platforms such as PayPal and Venmo.
• Engaging in any combination of holding, moving, or buying crypto assets as described above.

When taxpayers must check "Yes"

The bulleted list below addresses the most frequent types of taxable crypto transactions that individuals engage in, which would require tax filers to check the "Yes" box on the 1040 forms:

• Receiving crypto coins or tokens as payment for goods or services rendered.
• The free receipt of a digital asset that does not qualify as a bona fide gift per IRS guidelines.
• Earning digital rewards resulting from crypto staking or mining activities, however, it should be noted that this particular provision is being challenged in court -- regardless, it's best to still follow the existing guidance until the final court ruling.
• A trade or exchange of a virtual currency for another crypto, property, services, or goods.
• A sale of virtual currency or any other disposition of a financial interest in virtual currency.

The IRS currently considers crypto as property, not securities

Lastly, if a taxpayer got rid of any crypto through a sale, exchange or transfer, they must check "Yes" and use Form 8949 to figure their capital gain or loss and report it on Schedule D (Form 1040). That's because the IRS currently classifies crypto as "property" instead of securities such as stocks or bonds.

Because of that distinction, crypto assets are taxed at the short- or long-term capital gains rate depending on how long you've held an asset. If you held a cryptocurrency for a year or less, the short-term tax rate for 2021 ranges from 10% to 37% based on your filing status and earned income. However, if you hold a crypto asset for 12 months or more, the long-term tax rate is applied, which ranges between zero to 20% on profits as well as annual earnings and whether the filer is single, married, or head of household.

If you delayed filing your tax returns and have to answer "Yes" to the crypto IRS question, then your best option now is to use an online tax preparation service that specializes in crypto taxes such as Cointelli.com or TaxBit.com. For small fees, both services enable you to securely link your digital accounts and organize all transactions without directly accessing any of your assets or crypto wallets. Both also generate a completed Form 8949 to file yourself or provide to your accountant or tax prep service.