Bitcoin and cryptocurrencies offer investors, traders, and HODLers the rare opportunity for asymmetrical gains. A little money can turn into a lot of money quickly.
But the IRS wants its cut.
You probably know by now that every purchase and sale using Bitcoin or any other altcoin is going to be taxed like a stock if you live in the US. This means if the value of your Bitcoin or altcoin increased at all before you sold it, you owe the IRS money.
The addition of several thousand new cryptocurrencies in the last 2 years has complicated the issue, especially since buying many of them requires buying BTC first, and then purchasing the altcoins with BTC.
This means that every purchase of an altcoin can trigger a taxable event. That’s right – trading one crypto for another is a taxable event now.
Not only do you have to pay the tax on your gains, but you have to actually show the calculations of the gains on your tax return and determine whether they are short term gains (held for less than 1 year) or long term gains (held for more than 1 year).
Those calculations can be difficult and depending on the exchange you use, often nearly impossible to figure out on your own. For active traders with hundreds or thousands of trades per year, this could become a huge burden.
Short-term capital gains rates & brackets (same as income):
Long-term capital gains rates & brackets:
Is there a way to still trade Bitcoin and altcoins, without all of the burdensome IRS reporting?
Even better, is there a way to trade and keep all of your gains without having to pay any taxes at all?
The short answer is yes.
Strategy 1: Use a dollar pegged stablecoin.
To get your “money” onto an exchange, your typically have to buy Bitcoin or an altcoin like Litecoin or Ethereum, move them to the exchange, and use them to buy other altcoins.
The problem: buying the altcoin with BTC, LTC, or ETH creates a taxable event that must be reported on your tax return.
Instead of using BTC or an altcoin, buy a stablecoin like USDT (Tether) or USDC (this is the stablecoin created by Coinbase), and move that to the exchange. It works just like a dollar, and of course, buying a dollar for a dollar does not create a taxable event. Now you can buy altcoins without incurring a taxable event during the purchase.
The sale, however, is another story.
Strategy 2: Tax advantaged accounts
The asymmetrical gains from trading the highs and lows of Bitcoin and other altcoins can make huge profits quickly, but those quick profits also mean paying a lot of short term capital taxes if you’re not careful.
If you don’t want to pay short term capital gains taxes on each positive trade, then you have to hold each position for at least a year. Even then, you still have to pay long term capital gains taxes and report each trade.
If you want to take some gains from that sudden spike in BTC prices, you’re going to have to watch out for your tax burden. However, there is a step further that you can take: trading in a tax advantaged account like an IRA or 401k will remove the tax liability from those individual trades.
If you don’t want to do any reporting, or pay any taxes on individual trades, then you need to trade BTC and altcoins in an IRA or ROTH IRA if you live in the US.
These are retirement accounts, so there are some restrictions, but there are many benefits for Bitcoin traders in the US.
For a traditional IRA, any money you put into it (up to $6k per year this year) is not taxed this year. It is only taxed when you take gains out of your account in the future. This means you can trade as much as you want, and as long as the money remains in the IRA account, you are never taxed on those gains. This allows you to build up your portfolio much faster as you’re not losing 15%-50% of your gains on each trade to taxes.
A ROTH IRA is even better. Any money you put into this account is never taxed, no matter how high you grow the account, as long as you keep the money in it until after you are 65 years old. (Here you can read an in depth discussion of Bitcoin IRAs and how they work)
If you’re investing in Bitcoin for the long haul, and want to build your portfolio faster by buying the dips and selling the highs, then trading in a tax advantaged retirement account will save you a huge amount in taxes and countless hours in reporting to the IRS.
Here are two recommendations for companies that can help you set up a Bitcoin IRA:
- No set up fee
- Lowest fees in the industry
- Newer Company (not as long a track record)
- Minimum investment: $0
- Option to Buy Physical Gold: YES
- 24/7 Trading
- Free account sign up: itrustcapital.com
- Oldest Bitcoin IRA provider (longer track record than others since 2016)
- Has high fees and set up costs
- Minimum Investment: $3000
- Option to Buy Physical Gold: NO
- 24/7 Trading
Both are based in California, and both offer nearly identical services, but the main difference is that one is much more expensive than the other, so be sure to factor that into your cost savings calculations and make sure it is worth it when trading. Either provider will give you the same tax and reporting advantages discussed in the article.