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IRS Changes The Crypto Question For 2022 Tax Returns

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A couple of years ago IRS decided to ask individuals filing their tax returns about their involvement in crypto. They have added a question in 1040 form, and it would read as following:

At any time during 2021, did you receive, sell, exchange, or otherwise dispose of any financial interest in any virtual currency?

The IRS started asking this question in 2020 and continued to ask the same question in 2021. The answer to the question doesn't necessarily directly change anything about the tax return. Even without this question, it has always been individual's responsibility to declare all income, crypto or otherwise. However, it did emphasize that IRS was serious about collecting taxes on income from crypto.

Taxes on crypto still remain confusing to this day. Not only because government agencies are too slow to clarify things, but also because crypto world is confusing as well. Not all assets have the same characteristics, not all blockchain networks function the same, and there are many types of activities in crypto that may be debatable wether they are taxable events.

It is tax season again in the US and as we prepare to file tax forms for 2022, the IRS has a surprise crypto question once again. But this time they have completely changed the question. The new question on 1040 reads as following:

Digital Assets: At any time during 2022, did you:(a) receive (as a reward, award, or payment for property or services); or (b) sell, exchange, gift, or otherwise dispose of a digital asset (or a financial interest in a digital asset)? (See instructions.)

The biggest change we can see right away is the change in wording of the crypto assets. In the previous forms crypto assets were referred to virtual currency. Now they are calling them digital assets. Perhaps that is a better wording that would include all crypto assets, because not all assets can be used as currencies. For example NFTs.

This time IRS is a little bit more specific with their questions and they try to define what can actions can be receiving digital assets and what actions can be disposing of digital assets or financial interest in digital assets. The IRS takes one more step further with more detailed instructions about digital assets question which also defines what digital assets are.

Digital assets are any digital representations of value that are recorded on a cryptographically secured distributed ledger or any similar technology. For example, digital assets include non-fungible tokens (NFTs) and virtual currencies, such as cryptocurrencies and stablecoins. If a particular asset has the characteristics of a digital asset, it will be treated as a digital asset for federal income tax purposes. source

The instructions also provide useful examples on situations when one should answer 'Yes' to the digital assets question. According to the instructions if any of the following actions happened in 2022 then the answer would be 'Yes':

  • Received digital assets as payment for property or services provided;
  • Received digital assets as a result of a reward or award;
  • Received new digital assets as a result of mining, staking, and similar activities;
  • Received digital assets as a result of a hard fork;
  • Disposed of digital assets in exchange for property or services;
  • Disposed of digital asset in exchange or trade for another digital asset;
  • Sold a digital asset;
  • Transferred digital assets for free (without receiving any consideration) as a bona fide gift; or
  • Otherwise disposed of any other financial interest in a digital asset.

They also give examples of situations where some actions don't require to check 'Yes'.

  • Holding a digital asset in a wallet or account;
  • Transferring a digital asset from one wallet or account you own or control to another wallet or account that you own or control; or
  • Purchasing digital assets using U.S. or other real currency, including through the use of electronic platforms such as PayPal and Venmo.

This question must not be left unanswered. Filers must check 'Yes' or 'No' depending on their situation. Make sure to contact your tax specialist to figuring out the answer. Every situation is unique, and there is no one answer for all. Crypto taxes remain to be confusing, despite the latest efforts by IRS to clarify.

It does seem like a win for crypto blockchain technologies and networks overall. Just by looking at the examples IRS tax form instructions, we can see they have been observing various situations when crypto assets are being used. The one at the top of the list seems to be receiving crypto as payment for property or services. That means more adoption and how some people are choosing crypto payments. At the same time, IRS manages to make a distinction between cryptocurrencies and fiat by calling fiat as "real currency" towards the end of instructions. While I understand what they meant with that, it did sound funny. It is debatable which currencies are more real, fiat or crypto.

Make sure to read the instructions regarding how to report digital asset transactions when filing your taxes for 2022. Let me know your thoughts in the comments.

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