The Internal Revenue Service is cautioning taxpayers with virtual currency not to skip over a small, but vitally important, part of their Form 1040 this year.
As the saying goes, the devil’s in the details.
The pitfall comes in the form of a simple check box at the top of each Form 1040, Form 1040-SR, or Form 1040-NR. It asks, “At any time during 2021, did you receive, sell, exchange, or otherwise dispose of any financial interest in any virtual currency?”
Sounds simple enough. Taxpayers have to check either “Yes,” or “No” to the crypto question, and every taxpayer—whether or not they have virtual currency or have ever had virtual currency—has to answer that simple question on the IRS flagship form.
When the Answer is “No”
Those taxpayers who owned virtual currency but didn’t have any transactions involving virtual currency during the 2021 tax year can answer “No” to the question and go on with the rest of the form. But their activities must have been to be limited to:
- Holding virtual currency in their own wallet or account.
- Transferring virtual currency between their own wallets or accounts.
- Purchasing virtual currency using real currency, including purchases using real currency electronic platforms such as PayPal and Venmo.
- Engaging in a combination of holding, transferring, or purchasing virtual currency as described above.
When the Answer is “Yes”
The IRS says these are the most common transactions in virtual currency that require a “Yes” answer on any of the Forms 1040:
- The receipt of virtual currency as payment for goods or services provided;
- The receipt or transfer of virtual currency for free (without providing any consideration) that doesn’t qualify as a bona fide gift;
- The receipt of new virtual currency as a result of mining and staking activities;
- The receipt of virtual currency as a result of a hard fork;
- An exchange of virtual currency for property, goods, or services;
- An exchange/trade of virtual currency for another virtual currency;
- A sale of virtual currency; and
- Any other disposition of a financial interest in virtual currency.
If a taxpayer used a sale, exchange or transfer to dispose of virtual currency held as a capital asset, they too would answer “Yes” to the question at the top of the Form 1040.
These taxpayers would use Form 8949 to determine any capital gain or loss and then report it using Schedule D of Form 1040.
The IRS also has a further reminder for taxpayers who were paid for their services in virtual currency and those who sold or disposed of virtual currency that was held for sale as part of a trade or business.
These taxpayers are reminded their virtual income must be reported just as other income of the same type. This means virtual W-2 wages should be reported on Form 1040, 1040-SR, or 1040-NR, line 1; virtual inventory or services from Schedule C reported on Schedule 1.
Page 17 of the 2021 Form 1040 Instructions has more information. For more general information on virtual currency and other related sources, visit the Virtual Currencies webpage on the IRS website.
Source: IR-2022-61