People have many misconceptions about crypto taxes that can lead to grave crypto accounting mistakes. It is commonly believed that crypto functions differently from fiat currency. That’s why people expect it to be exempted from taxes in certain use cases.
That can lead to a variety of crypto tax accounting errors that can trigger an IRS audit. They can cost you a big chunk of your crypto assets in the form of tax payments. Most people make these common cryptocurrency accounting errors because they don’t have answers to these questions:
Do I have to report every disposition of crypto when filing for crypto taxes?
How can I plan my crypto taxes ahead of time?
Are crypto transactions anonymous and therefore non-taxable?
Can the IRS trace all my crypto purchases?
Are all of my crypto assets taxable?
Can the IRS trace all of my crypto earnings and rewards?
This article will help you answer all of these questions and more regarding crypto taxes and IRS demands. We are going to look into the 5 biggest crypto accounting mistakes one by one and discuss how you can avoid them.
Mistake Number 1.) Not Calculating Your Crypto Income Correctly
Your crypto income is not limited to the profits you make on certain crypto investments. It is also not limited to the crypto you have stored in any specific wallet. There are many other cases in which you earn taxable crypto assets like when you receive crypto as a reward in a game.
Some things you must keep in your mind when calculating your crypto income include:
Profits from your crypto investments across multiple online platforms
Cryptocurrency you have earned in rewards online
Cryptocurrency you might have won in online games
To avoid making this embarrassing crypto tax accounting mistake, make sure you count all of these in your income. Don’t leave anything out of your crypto income statement. You need to provide a transparent and complete income statement to the IRS to avoid triggering an audit or losing your assets.
Mistake Number 2.) Considering Some Crypto Transactions Anonymous and Untraceable
People think that those rewards are an untraceable form of cryptocurrency. That is not true. Cryptocurrency is neither completely anonymous nor completely decentralized. That is just a very common misconception that can lead to big errors in accounting for cryptocurrency and filing.
No matter how many ads you see promoting decentralized finance, remember that that is a vision only. Companies have started to invest in that, but complete decentralization has not been achieved yet. All of your crypto transactions are traceable and therefore liable to taxation.
That is why it is important to account for everything in your records when you submit them to the IRS. Don’t try to hide any asset under the illusion that it may not be traceable and may not be liable to taxation. That can be one of the biggest red flags that can lead to an IRS audit.
Mistake Number 3.) Not Calculating a Cost Basis for Crypto Earnings
You don’t want the IRS to think that you did not have to invest any of your other assets to get the crypto you have today. In that case, all of the crypto you own will be considered an earning or a profit. That way, you will have to pay much more tax on your crypto assets than otherwise.
That is why it is important to evaluate the cost basis for the crypto assets you have. For example, you may have founded a cryptocurrency and distributed it between many shareholders and investors. In that case, you have to make sure you know how much money you had to invest in your project to make it successful.
That will help you avoid having to pay taxes on money that is not technically a part of your income. Your investment in your crypto project will be exempted from the taxes that you have to pay to the IRS. That is why you must have a cost basis defined before you apply for crypto taxes.
Mistake Number 4.) Failure to Maintain a Transparent Record of Crypto Transactions
When it comes to recording crypto transactions, it is easy to skip some minor details. For example, you may have used crypto to pay a merchant online or physically for something very small. It could even be a cup of coffee only.
However, even that must be kept in a record. Crypto transactions are not like credit card transactions. They are separately taxable. You have to make sure that the record you present to the IRS is complete.
It must include all of your spendings in crypto – A to Z. If you have not kept track of your expenditures in crypto before, now might be a good time to start doing so. It will help you avoid being in trouble with the IRS when you file for crypto taxes.
Mistake Number 5.) Not Hiring a Crypto Tax Accountant to Manage Everything
A crypto CPA can be the one solution to all of these problems faced by crypto taxpayers. From keeping everything in their record to helping you arrive at a cost basis, they can do everything. That is why it is a good idea to hire one and have them start recording your income and expenditures.
With the records kept by a professional accountant for cryptocurrency, you will be at much less risk when you file for crypto taxes. An IRS audit can create a lot of problems for you especially if you don’t have transparent records.
Having an accountant onboard is a great way to keep your assets safe without paying a huge amount in taxes. Everything will be managed seamlessly, and you will have a clearer estimate of how much you need to pay in taxes.
Mark Robert Buckingham is a Crypto tax accountant and founder of www.ResultsTaxAccountants.com. He’s on a mission to help crypto investors, traders, DeFi participants, miners and businesses avoid crypto tax and accounting headaches and frustrations. Mark’s free Cut-Your-Crypto tax blog is: www.ResultsTaxAccountants.com/blog.