December 15th, 2021 | Updated on June 25th, 2022
Initially, when cryptocurrency was founded, the aim was to make it an alternative currency, apart from the traditional currency.
In fact, the term cryptocurrency literally implies digital or virtual currency that would be regulated by a decentralized system using cryptography, rather than a centrally authorized system.
But when it comes to taxes, the Internal Revenue Service has other plans!
In 2014, the IRS issued a Notice 2014-21, which stated that cryptocurrency does not have any legal tender status.
And in terms of taxes, it’ll be taxed similarly to property.
So if you own Bitcoin or any cryptocurrency, you must pay federal income tax on Bitcoin. This includes any capital gains made when exchanging Bitcoin for US dollars, virtual currencies, or other assets.
In reality, this implies determining the gain or loss on a transaction requires calculating the fair market value and cost basis.
Because you may owe tax on the total revenues if you don’t keep a record of the cost basis, it’ll be extremely essential to keep track of it.
All of this is about crypto taxes. But can you avoid paying Bitcoin taxes?
4 Ways To Avoid Bitcoin Tax
Here are 4 ethical ways to avoid or minimize your Bitcoin tax:
- Tax Loss Harvesting
- HODL
- Crypto IRA
- Life Insurance Policy
Let’s learn about each of these in detail.
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Tax Loss Harvesting
Harvesting your tax losses is the simplest way that you can adopt to avoid crypto taxes. While the word may appear complicated, it basically refers to selling an open trade at a loss and then establishing the position again.
The security was replaced, and thus, the transaction does not have an impact on your overall portfolio. But it does result in a tax loss for the year.
The loss that is incurred can be used to balance out any capital gains for the tax year, including gains from other stock portfolios. It can also be used to offset up to $3,000 in ordinary income or carried over to future years.
Now how is it different from the stock market? There is no Wash Sale Rule prohibiting you from replacing a previously sold item in your portfolio with the exact identical asset.
But the real question remains:
How To Harvest Tax Losses?
The best way to harvest tax losses is to use automated crypto tax tools, such as Zen Ledger’s Tax Loss Harvesting tool. Doing so can rapidly decide which options are viable in your portfolio and recommend particular transactions.
It is also the quickest approach to find these possibilities.
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HODL
HODL refers to buy-and-hold tactics in the context of bitcoin and other cryptocurrencies, and is derived from a misspelling of “hold.”
As mentioned earlier, capital gains taxes apply to cryptocurrencies. However, the rate of taxation varies depending on a number of circumstances.
Short-term capital gains tax rates, for example, are often higher than long-term capital gains tax rates, especially for those in high-income tax bands.
Let us assume that you make $100,000 as a single filer each year. If you made $10,000 in short-term gains from cryptocurrency trading, you would owe $2,400 in taxes at a short-term capital gains tax rate of 24%.
If you had that Bitcoin for longer than a year, your long-term capital gains tax rate would be only 15%, resulting in a $900 tax savings.
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Crypto IRA
Another great option to delay or minimize tax on your cryptocurrency assets is to buy crypto in an IRA, 401(k), or other retirement plans.
So what happens when you buy bitcoin in a regular IRA? The profits will not be taxed until you start taking distributions. But if you buy within a ROTH, the capital gains received in the account are tax-free.
How To Acquire Crypto Using A Retirement Account?
- You must first transfer the account to an offshore IRA LLC located outside of the United States.
- The IRA LLC can then make the investment by opening an offshore bank account and wallet.
- You’ll be the IRA LLC’s management and in charge of the investments.
- You’ll have complete control over the account and will be the only one who can make decisions.
In order to get your IRA abroad, the first thing you must do is to establish a limited liability company (LLC) in a tax-free jurisdiction.
Then you switch your account from your present custodian to one that permits you to invest in foreign markets.
Finally, you create an overseas bank or brokerage account and deposit the funds from your retirement plan there.
You write the cheques or send the transfers from here. You are in charge of the investments and have the option of using cryptocurrencies. Go for it if you wish to invest in international real estate, gold, or cryptocurrency.
You are in charge of your retirement account’s investments. This implies that you must adhere to all IRS regulations.
- You can’t borrow from the account
- You can’t profit personally from the investments
- You have to regard the IRA as if it were a professional financial advisor
That is, all choices should be made in the account’s best interests.
Buying cryptocurrencies in your IRA is a great choice if you already have a significant retirement account.
Note: The total yearly contributions to your traditional and ROTH IRAs together cannot be more than the following limits:
- For individuals under 50 years of age- $5,500
- For individuals aged 50 years or above- $6,500
Life Insurance Policy
Buying coins via an overseas life insurance policy is another option to pay no tax on cryptocurrency earnings. You may put any amount of money into an Offshore Private Placement Life Insurance policy to construct the equivalent of a ROTH or Traditional IRA.
You may achieve tax exemption similar to a typical IRA by setting up a private placement policy, holding it for a few years, and then closing it down. That is, when you close out the insurance, you will have to pay tax only on the profits.
The Bottom Line
People only pay taxes once a year. But there are ways to save throughout the year. Using automated crypto tax software like Zen Ledger, you may learn how to avoid paying taxes on crypto by recognizing tax-loss harvesting opportunities throughout the year, lowering your tax burden, and ensuring correct reports.
You should also consult with an accountant to establish the most appropriate accounting system and company organization for your circumstances.
FAQs: 4 Ethical Ways You Can Opt For To Avoid Bitcoin Tax
How Do I Determine If My Gain Or Loss Is A Short-term Or Long-term Capital Gain Or Loss?
In the United States, crypto is taxed like property. So if you’ve held your crypto assets for less than a year, you’ll have to pay short-term capital gains taxes. But if you hold your crypto assets for longer than a year, you’ll have to pay long-term capital gains.
Suppose you made $10,000 in short-term gains from cryptocurrency trading, you would owe $2,400 in taxes at a short-term capital gains tax rate of 24%. But if you had that Bitcoin for longer than a year, your long-term capital gains tax rate would be only 15%.
What Is Tax-loss Harvesting?
Harvesting your tax losses is the simplest way that you can adopt to avoid crypto taxes. While the word may appear complicated, it basically refers to selling an open trade at a loss and then establishing the position again.
The security was replaced, and thus, the transaction does not have an impact on your overall portfolio. But it does result in a tax loss for the year.
How Can I Acquire Crypto Using A Retirement Account?
- You must first transfer the account to an offshore IRA LLC located outside of the United States.
- The IRA LLC can then make the investment by opening an offshore bank account and wallet.
- You’ll be the IRA LLC’s management and in charge of the investments.
- You’ll have complete control over the account and will be the only one who can make decisions.
