Source: TaxDAO
1 Several Ways to Legally Manage Crypto Taxes
In most jurisdictions, cryptocurrency investments are subject to capital gains taxes. Fortunately, there are a variety of ways to reduce or even completely avoid crypto taxes. This article explains several effective ways on how to legally manage crypto taxes:
1.1 Gifting Bitcoin to Another Person
Investors considering how to completely avoid crypto taxes may consider gifting their tokens to others. The rules regarding gifting Bitcoin to avoid taxes vary from country to country. In the United States, for example, the IRS allows tax-free gifts of up to $17,000. This means that investors can avoid paying capital gains taxes by gifting crypto to others.
Not only that, but the recipient will not be taxed. However, once the recipient sells the crypto, capital gains taxes will be due. The cost basis of the capital gain will be based on the price of the crypto asset at the time it was received. In 2023, donations can also exceed $17,000. This is because the lifetime donation tax exemption for U.S. residents exceeds $12.9 million.
So, any amount above the $17,000 annual limit can be deducted. Many other countries also have gift tax exemptions. For example, cryptocurrency investors in the United Kingdom can donate up to £3,000 in 2023. Australian authorities are much more generous, as there are no gift restrictions at all. This makes this strategy perfect for Australians exploring how to avoid crypto taxes.
1.2 Investing through an IRA
When evaluating how to legally avoid crypto taxes, individual retirement accounts (IRAs) are also ideal. In the US, online brokers offer an annual limit of $6,500 for IRAs. It’s $7,500 for those over 50. And there are two types of IRAs available – Roth IRA and Traditional IRA. Roth IRAs allow investors to contribute after-tax dollars.
This means that taxes have already been paid through the investor’s salary. In turn, investors can withdraw money from their IRAs tax-free when they retire. Traditional IRAs allow for pre-tax dollars. This means that investors can make larger contributions because the income is not taxed. However, withdrawals from traditional IRAs will be taxed.
There are dozens of online brokers in the US that offer IRAs. But be aware that few allow crypto investments in IRA plans. Instead, investors need to use a professional broker. Bitcoin IRA is a popular choice. It supports more than 60 cryptocurrencies and offers a variety of crypto retirement accounts including IRAs and 401(k).
1.3 Take advantage of capital gains tax allowances
Those wondering how to avoid tax should also find out if their country of residence offers a capital gains tax allowance. This allows investors to cash out a certain amount of cryptocurrency each year without paying tax. For example, the UK's capital gains tax allowance for 2023 is £6,000.
In this scenario, let's say an investor purchased £10,000 worth of cryptocurrency, which is now worth £25,000. If the investor were to cash out the full amount, they would have to pay £9,000 in capital gains tax. This is because the profit portion of the sale is £15,000, and the investor has a £6,000 allowance.
However, if only £6,000 is cashed out, no tax would be owed. This suggests that capital gains tax can be avoided through strategic sales. Many other countries have provisions for capital gains tax allowances. For example, Australian residents receive a 50% capital gains tax exemption if the investment is held for at least 12 months.
1.4 Tax Loss Harvesting
Another popular option when exploring how to reduce crypto taxes is tax loss harvesting. While somewhat complicated, the process requires investors to sell some of their crypto at a loss. That way, the losses can be written off and deducted from annual capital gains taxes. After the sale, the investor can then purchase another asset. But how do you declare a cryptocurrency tax loss in 2024?
Different countries have different rules on this. In the United States, for example, the same asset cannot be purchased within 30 days of the sale. Nonetheless, let’s assume that the investor has two long-term cryptocurrency investments. First, $5,000 worth of XRP is purchased, which is now worth $15,000. This means a gain of $10,000.
Second, $10,000 worth of BNB is purchased, which is now worth only $4,000. This means a loss of $6,000. Now, if the investor sells XRP, they will need to pay capital gains tax. But by selling BNB, that $6,000 loss will be deducted from the investor's tax bill. The investor can immediately buy another crypto asset, as long as it is not BNB.
1.5 Donations
When exploring how to avoid crypto taxes, investors may also want to consider donations. Donating any crypto assets to charity allows investors to avoid taxes entirely. However, this is conditional on the cryptocurrency being sent directly to the charity's wallet. On the other hand, cashing out the crypto first triggers a taxable event.
Dozens of charities now accept crypto directly, so investors can donate to their favorite causes. Some countries require residents to include charitable donations in their annual tax returns. This varies from jurisdiction to jurisdiction. Additionally, only certain types of charities may qualify, so verify this before making a donation.
1.6 Never Sell
Another foolproof way to avoid paying taxes on crypto is to never sell it. By this, we mean holding onto your crypto investments until you die. In doing so, there are tax benefits. For example, a person who holds cryptocurrencies will not have to pay any taxes at all upon their death. This is because the crypto assets have not yet been sold, so the gains cannot be realized.
In addition, the person who receives the cryptocurrencies after the owner's death will benefit from a reassessed cost basis. For example, let's say the original owner purchased 3 Bitcoins at a cost price of $5,000 each. This means the original investment was $15,000. When they died, BTC was worth $60,000, meaning the investment is now worth $180,000. Normally, the original owner would have to pay capital gains tax on the $165,000 profit.
However, if the recipient sells the cryptocurrencies after the original owner's death, the cost basis would be $60,000 per BTC. Therefore, the new owner can immediately sell a $180,000 cryptocurrency portfolio without paying a penny in capital gains tax. This is because both the cost and selling price come to $180,000 - at least in the eyes of the IRS.
1.7 Avoiding Staking and Other Yield Methods
The last option to consider when exploring how not to pay taxes on Bitcoin is to avoid staking and other yield methods. This also includes cryptocurrency savings accounts, mining, double staking, and liquidity mining. This type of income is defined as income rather than capital gains.
This can have a disastrous effect for a number of reasons. First, it can push an investor’s income to a higher level and result in the investor needing to pay a higher tax rate. Additionally, the taxes will be paid in the same year that the cryptocurrency income is earned. Another reason why cryptocurrency income should be avoided is that calculating taxes can be very complicated. This is because the income is based on the value of the crypto tokens on the day they are received. Considering that the best cryptocurrency staking platforms make distributions every day, this would require a lot of work. Another factor to consider is that the taxable event is based on the entire yield reward received. This is because the tokens do not have a cost price.
2 Crypto Tax Overview
In this section, we will take a closer look at how crypto taxes work. This will give investors a better understanding of how to not pay taxes on Bitcoin and other cryptocurrencies.
2.1 Capital Gains Tax
In most cases, capital gains tax is paid on profits made from cryptocurrency investments. This is simply the difference between the cost of a crypto token and the selling price. For example:
Investor buys 3 BNB for $300
Investor sells 3 BNB for $500
The capital gain on this investment is $200 per BNB
The total capital gain is $600 ($200 x 3 BNB)
Whether or not capital gains tax is paid depends on many factors. For example, we mentioned that many countries have an annual capital gains tax allowance. The UK caps the allowance at £6,000 per year until 2023.
This means that the investor has a realizable capital gain of £6,000 without paying any tax. This is the best way to avoid capital gains tax, so investors should check what exemptions are available in their home country.
If capital gains tax is due, the rate will also vary from country to country. This may also vary based on the investor's income in the respective tax year. For example, if a US investor earns between $44,626 and $492,300, they will be subject to a 15% capital gains tax. Anything above this figure is taxed at 20%.
2.2 Income Tax
We also mentioned that cryptocurrency income, such as staking and savings accounts are taxable. The amount received is generally included in the investor's income for that year.
For example, let's say an investor receives a staking reward worth $5,000 in 2023. This $5,000 will be included in their income and taxed in the investor's tax bracket. This can be problematic because it can push income up to the next bracket, which means a higher tax rate.
For example, let's say an investor earns $40,000 in 2023. In addition, they receive $5,000 worth of cryptocurrency income through staking. This brings the total income to $45,000. Therefore, any capital gains earned this year will now be taxed at a 15% rate. If there were no staking rewards, the investor would pay a 0% tax rate.
The taxable event occurs immediately upon receipt of cryptocurrency income and is calculated based on its value on that day. This means that investors need to have adequate records in order to assess their tax liability.
3 How Much Crypto Tax Do You Pay?
There is no one-size-fits-all answer to how much tax you will pay on your cryptocurrency investments. This will vary depending on:
Country of residence
Amount of capital gains
Whether any cryptocurrency income is received
Annual income of the investor
Whether there is an allowance
Crucially, however, no tax is payable as long as the cryptocurrency remains unsold. This is because the tax authorities are only interested in “realizable” gains. This means that capital gains are based on the difference between the cost and the sale price.
Therefore, when exploring how to avoid cryptocurrency capital gains tax, one of the best options is to hold on. As discussed earlier, investors should also seek to maximize their capital gains tax exemptions. There are also tax exemptions available when earning cryptocurrency income. For example, UK residents can earn up to £12,570 without paying any income tax.
4. Crypto Tax Compliance
There is often a misconception that tax avoidance on cryptocurrency investments is against the law. But this is far from the truth. Tax avoidance simply means taking advantage of the law to make tax-efficient investments.
There are many ways to achieve this, such as those discussed earlier. This includes everything from gifting and donations to using annual tax exemptions. However, it is important to seek advice from a qualified advisor before deploying a cryptocurrency tax strategy.
The advisor should not only be qualified to provide tax advice on how to avoid paying taxes on cryptocurrency, but should also have experience in blockchain investing. If investors make the wrong decisions, there is a risk of tax evasion occurring. This is a criminal offence, so it is important to get proper advice.
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