According to Insider Intelligence, in 2021, cryptocurrency accounted for $6.10 billion worth of transactions worldwide. That represents an increase of 177.3% over the year before. The transaction value is expected to surpass $16.16 billion in 2023 as more businesses accept digital currencies as forms of payment.
As the use of virtual currency explodes, the IRS is adapting tax forms to record taxes due for related transactions. As we enter the last quarter of the year, the IRS has started drafting the new tax return forms for 2022. While not final, we have seen some of the changes on Form 1040 from last year. One significant difference is the use of the phrase “digital assets” instead of “virtual currency.”
On the 2021 Form 1040, the question was asked “At any time during 2021, did you receive, sell, exchange, or otherwise dispose of any financial interest in any virtual currency?”
The draft 2022 Form 1040 asks, “At any time during 2022, did you: (a) receive (as a reward, award, or compensation); or (b) sell, exchange, gift, or otherwise dispose of a digital asset (or a financial interest in a digital asset)? (See instructions.)”
In 2021, the IRS used the term “virtual currency” to describe various types of convertible virtual currency that are used as a medium of exchange, such as digital currency and cryptocurrency. Regardless of the label applied, if a particular asset has the characteristics of virtual currency, it is treated as virtual currency for Federal income tax purposes.
In 2022, changing the phrase “virtual currency” to “digital assets” indicates that the IRS seeks to include other forms of assets besides cryptocurrency, such as blockchain and nonfungible tokens (NFTs). However, even though the IRS is changing the phrase to “digital assets” for the 2022 tax forms, the IRS website is still continuing to use the phrase “virtual currency” at this time.
A more detailed definition of digital assets will likely be included in the 2022 Form 1040 Instructions, which have not yet been published. Also, the IRS may revise the draft 2022 Form 1040 prior to issuing the final version.
The purchase of digital currency is not necessarily taxable. However, once it is sold, you must report the gains or losses to the IRS on the required forms and pay the taxes associated with the transaction. The tax rates will depend on how long you owned it in addition to your income level and tax filing status. Transactions, like selling digital (virtual) currency or using it for purchases, are considered capital gains or losses for tax purposes.
For more information on this topic, read our article, Overview of Blockchain and Cryptocurrency.
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