IRS Says Bitcoin is Not a Currency for Tax Purposes

NEW YORK (MainStreet) — The debate has raged on the Internet for months: is Bitcoin taxable? As a decentralized, non legal tender, backed-by-no-government currency, the taxing authority seemed tenuous. But you knew the IRS wasn't going to miss an opportunity to get a slice of the cryptocurrency pie. For purposes of taxation, the Internal Revenue Service (IRS) says digital currencies like Bitcoin are not currencies at all – they are property. And as taxes go, that's probably a good thing.

"Under currently applicable law, virtual currency is not treated as currency that could generate foreign currency gain or loss for U.S. federal tax purposes," the IRS says in a just-released notice. "[However] for federal tax purposes, virtual currency is treated as property. General tax principles applicable to property transactions apply to transactions using virtual currency."

On the surface, the IRS categorization of Bitcoin may seem confusing, but the end result may be favorable for most taxpayers.

The agency refers to Bitcoin and similar digital dollars as "virtual" currencies: a "digital representation of value that functions as a medium of exchange, a unit of account, and/or a store of value. In some environments, it operates like 'real' currency -- i.e., the coin and paper money of the United States or of any other country that is designated as legal tender, circulates, and is customarily used and accepted as a medium of exchange in the country of issuance -- but it does not have legal tender status in any jurisdiction," the taxing agency states.

"A taxpayer who receives virtual currency as payment for goods or services must, in computing gross income, include the fair market value of the virtual currency, measured in U.S. dollars, as of the date that the virtual currency was received," the IRS explains. "If the fair market value of property received in exchange for virtual currency exceeds the taxpayer's adjusted basis of the virtual currency, the taxpayer has taxable gain. The taxpayer has a loss if the fair market value of the property received is less than the adjusted basis of the virtual currency."

That means taxpayers will need to maintain records of their basis, the value of the currency when it's received. No small feat for a currency that is constantly and inconsistently valued by multiple exchanges worldwide.

If a consumer obtains bitcoins at the exchange rate of $2 and subsequently spends it when the value is $1, he will generally be able to claim the $1 difference as a capital loss. Of course, that can work in reverse -- with taxpayers required to report a capital gain on digital currency appreciation, as well.

Digital currencies such as Bitcoin that have an equivalent value and can act as a substitute for "real" currencies are referred to by the IRS as "convertible" virtual currencies, because they can be digitally traded between users and can be purchased for, or exchanged into, U.S. dollars, euros, and other real or virtual currencies.

--Written by Hal M. Bundrick for MainStreet

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