Bitcoin used to be something such as Schrodinger’s currency. Without regulatory observers, it might claim to be money and property at the same time.
Now the Internal Revenue Service has opened the box, and the virtual currency’s condition is initiated – at the least for federal tax purposes.
The IRS recently issued guidance how it’ll treat bitcoin, and some other stateless electronic competitor. The short answer: as property, not currency. Bitcoin, as well as other virtual currencies that may be exchanged for legal tender, will now be treated generally as a capital asset, and in a few situations as inventory. Bitcoin holders who’re not dealers will be subject to capital gains tax on increases in value. Bitcoin “miners,” who unlock the currency’s algorithms, should report their finds as income, in the same way other miners do when extracting more traditional resources.
Though this decision is unlikely to cause much turbulence, it’s worth noting. Now that the IRS has made a call, investors and bitcoin enthusiasts can move ahead with a far more accurate knowledge of what they’re (virtually) holding. A bitcoin holder who wants to comply with the tax law, rather than evade it, now knows how to do so.
I think the IRS is correct in determining that bitcoin is not money. Bitcoin, and other virtual currencies like it, is too unstable in value for it to realistically be called an application of currency. In this era of floating exchange rates, it’s true that the worthiness of almost all currencies changes from week to week or year to year relative to any particular benchmark, whether it’s the dollar or perhaps a barrel of oil. But a key feature of money is always to serve as a store of value. The worth of the cash itself shouldn’t change drastically from everyday or hour to hour.
Bitcoin utterly fails this test. Purchasing a bitcoin is really a speculative investment bitcoin mixer. It is not really a spot to park your idle, spendable cash. Further, to my knowledge, no mainstream financial institution can pay interest on bitcoin deposits in the proper execution of more bitcoins. Any return on a bitcoin holding comes solely from the change in the bitcoin’s value.
Whether the IRS’decision can help or hurt current bitcoin holders depends upon why they wanted bitcoins in the very first place. For anyone hoping to profit directly from bitcoin’s fluctuations in value, that is good news, as the principles for capital gains and losses are relatively favorable to taxpayers. This characterization also upholds the way some high-profile bitcoin enthusiasts, like the Winklevoss twins, have reported their earnings in the absence of clear guidance. (While the new treatment of bitcoin is applicable to past years, penalty relief might be open to taxpayers who will demonstrate reasonable reason for their positions.)
For anyone hoping to make use of bitcoin to pay their rent or buy coffee, your decision adds complexity, since spending bitcoin is treated as a taxable type of barter. People who spend bitcoins, and people who accept them as payment, will both need to note the fair market value of the bitcoin on the date the transaction occurs. This will be used to calculate the spender’s capital gains or losses and the receiver’s basis for future gains or losses.
While the triggering event – the transaction – is straightforward to spot, determining a certain bitcoin’s basis, or its holding period in order to determine whether short-term or long-term capital gains tax rates apply, may prove challenging. For an investor, that could be a satisfactory hassle. But when you’re deciding whether to purchase your latte with a bitcoin or simply pull five dollars from your wallet, the simplicity of the latter is likely to win the day. The IRS guidance simply makes clear what was already true: Bitcoin isn’t a brand new type of cash. Its benefits and drawbacks are different.
The IRS has also clarified other points. If an employer pays a worker in virtual currency, that payment counts as wages for employment tax purposes. And if businesses make payments worth $600 or even more to independent contractors using bitcoin, the businesses will be required to file Forms 1099, in the same way they’d should they paid the contractors in cash.
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