Bitcoin, Taxes, and the Modern Entrepreneur

Content contributed in collaboration with The Tax Institute and Diamond Lambert.

Bitcoin and similar cryptocurrencies have introduced a wide range of conversations including potential benefits for those who prefer to remain self-employed.

From retailers who accept Bitcoin at checkout, to the individuals who make a living literally “mining” for uncirculated currency, there are tax obligations for those who fuel their hustle with Bitcoin.

Using Bitcoin in a Trade or Business

If a self-employed taxpayer receives Bitcoin as part of their trade or business, then the bitcoin is treated as self-employment income. Whether a taxpayer is in a trade or business is determined under the same general rules used for all other taxable activities.

When a taxpayer accepts Bitcoin in exchange for providing services, the transaction is taxable based on the following:

• The IRS outlines that the taxpayer who receives the Bitcoin in exchange for services must include the fair market value of the bitcoin on the date the currency is received.

• The recipient’s basis in the Bitcoin will also be equal to the fair market value on the date of receipt.

• If the taxpayer later exchanges the bitcoin for other goods, the taxpayer will have a taxable gain or loss equal to the difference between the basis in the bitcoin and the fair market value of the property he or she receives.

Example:

Jane is a self-employed editor. She receives Bitcoins in exchange for her services as an editor. Applying the barter rules, she tallies her new income equal to the fair market value of the Bitcoin at the time she receives it.

Jane goes on to include the fair market value of the Bitcoins in her total gross receipts on line 1 of Schedule C. Thus, her basis in the Bitcoins is equal to the fair market value at the time of receipt.

Taxpayers who receive Bitcoins via trade or business should retain records of all transactions so that income and basis are calculated accurately when it’s time to file.

Bitcoin Miners

In this context, “mining” is the act of using one’s computer to solve complex algorithms to forage Bitcoins from the internet.

According to IRS Notice 2014-21, a virtual miner must include the fair market value of mined Bitcoin in taxable income as of the date the miner acquires it.

When the taxpayer later disposes of the Bitcoins (via sale or exchange), he or she will recognize a gain or loss equal to the difference between the amount the taxpayer receives and his or her basis in the mined currency. The taxpayer’s basis in Bitcoin is equal to the amount that the taxpayer is required to include in his or her income.

Gain or Loss?

The character of the gain (or loss) will depend on whether the Bitcoin is a capital asset in the hands of the miner. A capital asset is defined as property that has a useful life “longer than a year” and not intended for sale within the same year it has been acquired. This type of asset can be tangible or intangible and can be claimed on taxes (or written off) little-by-little “over a number of years.”

Note: The holding period for Bitcoins will begin on the date the taxpayer mines and assumes ownership.

If the taxpayer is in the trade or business of mining Bitcoins, then his or her income will be subject to self-employment taxes. This includes the value of the Bitcoins as found property, as well as the income that the taxpayer may recognize upon the currency being sold or exchanged.

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This is the final installment of our four-part series. Still have questions? Schedule an appointment with your local H&R Block Tax Pro or join the conversation in our H&R Block Community.