With the advent and recent popularity and soaring prices of cryptocurrency, especially Bitcoin (BTC), there’s a need for accounting for cryptocurrency especially in regard to taxes.
***Note I will use BTC and cryptocurrency interchangeably throughout this report. What applies to BTC applies to all cryptocurrencies.***
IRS Treatment of Cryptocurrencies
In March of 2014 the IRS released Notice 2014-21 that addressed some, not all, of the questions about how the IRS is going to treat cryptocurrency. The IRS will treat cryptocurrency as property, not currency. This means when you purchase or sell a cryptocurrency you need to record its cost basis in US Dollars (purchase price plus any fees) using its fair market value. When you sell BTC you need to calculate your short-term or long-term gain. For example, you purchased 2 BTC when it was $270.22 per coin on October 20, 2015, sold 1 BTC on September 20, 2016 for a short-term gain and sold 1 BTC on October 21, 2016 for a long-term gain. You would record the transactions as:
This needs to be done for all transactions, not just an exchange. If you use BTC to purchase anything, you would create a transaction, like above, for the amount of BTC you used. This can become a cumbersome task. If you prefer not to do this process through an Excel worksheet, you can use one of the software programs to track your BTC transactions, or pay your accountant to manage it. My firm, Dollars & Sense Bookkeeping, offers BTC accounting services using software to track all your transactions and your gains/losses.
Fair Market Value
You calculate the cost basis using the fair market value on the date you received the BTC. Not the time, the date (day). Since cryptocurrencies fluctuate by the second, this creates an interesting situation. Unless you have already converted the BTC into cash, you have choices in how you want to interpret the fair market value of that day. You could choose:
- the average price on the day of receipt
- the price the second you receive the BTC
- the day’s high price
- the day’s low price