With the advent of Bitcoin and its underlying technology blockchain, making international payments anonymously without the intrusion of a middle man was made possible. Bitcoin was proved to not only be an invaluable technology for carrying out financial transactions but also, as time passed its value on its own increased. In a bearish market, Bitcoin became a valuable asset. An asset that was not subject to taxation by the governments, as they had not provided a regulatory framework for it.
A high-value commodity, not subject to taxes, present on the ledger which granted anonymity and could be used to transfer a huge amount of money overseas appealed to the criminals looking to launder money without being traced. Unfortunately for them, even with the presence of anonymity, the large amount which was being transferred could be traced when the asset was liquefied. Still, many could turn to cryptocurrencies to avoid tax obligations. In order for the IRS to tax Bitcoin and various crypto holdings, they had to be legalized as a currency. However, the IRS has now declared Bitcoin to be an asset rather than a currency. Bitcoin is currently being traded on the stock exchange as an asset or an intangible property which is subjected to tax.
The dilemma that was created by the declaration of taxes on Bitcoin holdings was that the rules for paying these taxes were essentially not well designed. The crypto technology carries so much complexity that the defined criterion for paying taxes became quite vague for a number of users. There was backlash all over the place. Many Bitcoin holders took to twitter, voicing their concerns over the misunderstandings. The assets which became subject to tax could have been
- Received as payment for providing any goods or services and the time period for holding the payment had no impact. This was classified as ordinary income. Furthermore, there could also be a state income tax on those payments.
- Received as an incentive from mining. This was also declared to be ordinary income. It would also include self-employment tax.
- Received from a hard fork and is to be treated as ordinary income.
- Received from like airdrop and is treated as ordinary income.
- Bought as an investment and sold at some profit. In this case, the time period of holding the income would come into consideration. It was described as follows,
- For less than a year, it is treated as ordinary income, also state income tax is applicable.
- For more than a year, it is treated as capital gains and a 3.8% tax on net investment income might be applicable.
All in all, even though the government had previously instructed Bitcoin holders to declare their assets, a few months back in July 2019, the IRS indicated that many holders had failed to correctly report their receipts. In case of failure to report the correct amount of Bitcoins that are held by an individual, it was made aware that the person would be subject to penalties, interest or even criminal prosecution. Apart from this, it was also mentioned that some would be subject to leniency on taxes depending on whether the individual has donated Bitcoin to a charity.