During 2019 alone, thousands of merchants worldwide were accepting Bitcoin (BTC) as a payment method. Despite this, a lot of current and would-be merchants are confused about how to pay taxes on their cryptocurrency sales.
This guide was created by a United States business owner that advocates for cryptocurrency and a crypto tax expert to cover both practical aspects and tax tips for businesses that wish to accept cryptocurrencies. So whether your clients are asking or you desire to support the growth of the crypto ecosystem, here is the right way to do it.
Cryptocurrency tax law varies by country
Each country has its own tax rules. Some, such as Portugal and France, look favorably on cryptocurrencies, while others like the U.S. and the United Kingdom take a more conservative approach to the asset.
Use the guide above to understand the implications in your country. Keep in mind that a country may use one set of laws for individuals and another for businesses. For example, in Portugal, the laws are more advantageous for individuals.
The rules can also differ from one business to another. In some countries, there are different tax rules for self-employers, companies, corporations and small businesses.
In the U.S., when you receive virtual currency in exchange for performing services, whether you perform the services as an employee or not, you recognize ordinary income. For more information on compensation for services, see Publication 525, Taxable and Nontaxable Income.
Make sure you understand whether the current tax rules apply to your business. If you are not sure what rules apply to you, consult a local tax professional.
You may be able to eliminate the volatility of crypto
The volatility of crypto is an issue that affects everyone who ever considers paying with crypto, but if you have a business, you need to take a moment and think about the implications.
There are two main ways to combat volatility. First, accept cryptocurrency payments through third-party service providers like BitPay.
For a fee (as low as 1% in the U.S.), you can instantly get fiat whenever someone is paying you with crypto. Most of those companies are also taking care of the invoicing and record-keeping procedures and dealing with the mandatory Anti-Money Laundering and Know Your Customer requirements.
Taxwise, this option is also very easy: If the crypto is immediately converted into fiat, you are paying tax for regular business income.
The main disadvantage of these companies is that they cannot provide services to everyone. Depending on the type of company and your jurisdiction, you may not be eligible for these services.
The second way to deal with volatility is to either accept stablecoins or instantly convert other cryptocurrencies to stablecoins.
If you choose this way, you will need to issue the invoice for the payment yourself. There are some bookkeeping platforms that support crypto payments, such as Coinbase Commerce.
Since stablecoins are not entirely nonvolatile, when you sell the stablecoins, you will need to check your tax implications, which depend on you and your business’s country of tax residency.
Now that we’ve covered the basics, let’s get to the practical aspects.
Record every sale
The first step is easier than you think. For every sale, you need to record the sale date and transaction amount as you would for fiat.
If you use a service like BitPay that instantly converts 100% of the sale to fiat currency, then you are done. Record the final amount minus the transaction fee. Same as you would for a payment processor.
If you do not use third-party payment services, in addition to the fiat amount, make sure to record fair market value amount in crypto. For reference, $50 USD at the time of writing this article is 0.0058 BTC.
Fair market value, or FMV, is typically defined as the selling price for an item to which a buyer and seller can agree.
Cryptocurrency value is determined by the cryptocurrency exchange and recorded in U.S. dollars. However, when it comes to peer-to-peer transactions or other transactions not facilitated by an exchange, the FMV is determined by the date and time at which the transaction was recorded on the blockchain.
The amount of income you must report is the fair market value of the virtual currency in USD when received. In an on-chain transaction, you receive the virtual currency on the date and at the time the transaction is recorded on the distributed ledger.
Additionally, you will need to determine the cost basis for the crypto you have received.
Cost basis is the original value of an asset for tax purposes. For digital currencies, the cost basis is the amount you spent to acquire the digital currency, including fees, brokerage commissions from exchanges, and other acquisition costs in U.S. dollars.
If you provided someone with services and received digital currency in exchange, your basis in that digital currency is the fair market value of the digital currency in U.S. dollars when it is received. For more information on basis, see Publication 551, Basis of Assets.
The Internal Revenue Code and regulations require taxpayers to maintain records that are sufficient to establish the positions taken on tax returns.
For cryptocurrency payments, it means documenting receipts, sales, exchanges or other dispositions of digital currency as well as the fair market value of the digital currency at the time of transaction.
Now it’s time to “cash-out” into fiat. Because the BTC price fluctuates, each sale has a unique value in BTC.
We send the 0.0269 BTC to an exchange and sell it for 290 USD. There is a 40 USD gain due to appreciation of the Bitcoin price.
When you earn money between the time of sale and the crypto-fiat conversion, you probably need to pay capital gains tax.
It depends on the country, but in the United States, we would calculate the time between the initial sale and the crypto-to-fiat conversion.
In our example and most others, the crypto-to-fiat trade that occurred within 12 months of the crypto purchases will be considered short-term capital gains.
If you decided to hold your crypto for over a year, then the profit would be considered long-term capital gains.
Many people don’t know it, but cryptocurrency tax liability can be significantly reduced by crypto tax planning. The new IRS guidance enables you to plan your taxes by choosing which particular Bitcoin to sell.
Therefore, you can choose to sell the same Bitcoin you purchased when the price was high now at a lower price. This can assist you in optimizing your tax liability. This tax planning method calls for the use of specific identification, a common way to calculate and plan taxes in many countries.
What about the miscellaneous transaction and withdrawal fees?
This one is straightforward. They are considered expenses, just like traditional banking or processing fees. The fees will reduce your cost basis.
What about crypto refunds?
Let’s say a customer wants to return an item and is granted a full refund. Bitcoin has gone up since its purchase. Do we refund their original amount of Bitcoin or the current USD equivalent?
This is usually a case-by-case decision, but most businesses will refund the USD equivalent at the time of purchase because the unit of account is (almost) always in fiat currency.
No matter what you choose to do, make sure you report it correctly and reduce the tax calculation consistently. Keep all fair market value records of the payment receipts and the refund.
We hope you have a bit more clarity on the tax implications for your business. Pay attention to updates as crypto tax regulations evolve in the 2020s.
The views, thoughts and opinions expressed here are the authors’ only and do not necessarily reflect or represent the views and opinions of Cointelegraph.
This article was co-authored by Or Lokay Cohen and Matt Aaron.