Jan 11

What You Should Know About Taxation Of Cryptocurrencies

Here’s a recent article, from Forbes.com, talking about the taxation of Bitcoin and other cryptocurrencies –

If you spend or invest in virtual currencies, it is crucial to understand how virtual currency transactions are treated for tax purposes.

IRS Notice 2014-21

The IRS addressed the taxation of virtual currency transactions in Notice 2014-21. According to the Notice, virtual currency is treated as property for federal tax purposes. This means that, depending on the taxpayer’s circumstances, cryptocurrencies, such as Bitcoin, can be classified as business property, investment property, or personal property. General tax principles applicable to property transactions must be applied to exchanges of cryptocurrencies. Hence, Notice 2014-21 holds that taxpayers recognize gain or loss on the exchange of cryptocurrency for other property.  Accordingly, gain or loss is recognized every time that Bitcoin is used to purchase goods or services.

Determining Basis & Gain

When it comes to determining the taxation of cryptocurrency transactions, it is important for cryptocurrency owners to properly track basis. Basis is generally defined as the price the taxpayer paid for the cryptocurrency asset.

For example, on June 1 2017, Jane purchased five Bitcoins for $6,000 ($1,200 each Bitcoin). On November 1, 2017, she used one Bitcoin to purchase $2,000 worth of merchandise via an online retailer. Jane recognized an $800 gain on the transaction ($2,000 amount realized – $1,200 basis in one Bitcoin).

What You Should Know About Taxation Of CryptocurrenciesTreating cryptocurrency, such as Bitcoin, as property creates a potential accounting challenge for taxpayers who use it for everyday purchases because a taxable transaction occurs every time that a cryptocurrency is exchanged for goods or services. For example, if Jane purchased a slice of pizza with one Bitcoin that she purchased on June 1 2017, she would have to determine the basis of the Bitcoin and then subtract that by the cost of the slice of pizza to determine if any gain was recognized. There is currently no “de minimis” exception to this gain or loss recognition. Taxpayers must track their cryptocurrency basis continuously to report the gain or loss recognized on each crypto transaction properly. It is easy to see how this treatment can cause accounting issues with respect to everyday cryptocurrency transactions.

On the other hand, the loss recognition on cryptocurrency transactions is equally complex. A deduction is allowed only for losses incurred in a trade or business or on a transaction entered into for profit. If Jane had recognized a $100 loss on her purchase of merchandise from the online retailer, the loss may not be deductible. If Jane uses Bitcoin for everyday transactions and does not hold it for investment, her loss is a nondeductible personal loss. However, if she holds Bitcoin for investment and cashes out of her investment by using Bitcoin to purchase merchandise, her loss is a deductible investment loss. Whether Bitcoin is held for investment or personal purposes may be difficult to determine, and further guidance by the IRS on this topic is needed.

Cryptocurrency values have been extremely volatile since its inception. As illustrated below, this volatility makes a significant difference in gain or loss recognition.

Jane purchased four Bitcoins on February 2, 2017 for $1,120 per Bitcoin, ten Ethereum coins on March 10, 2017 for $320 per coin, and 65 Litecoins on July 5, 2017 for $65 per coin.  Jane would need to keep track of the basis and sales price for each cryptocurrency transaction in order to properly calculate the gain or loss for each transaction.  In addition, if Jane purchased Bitcoins at different dates and at different prices, at sale, Jane would have to determine whether she would be selling a specific Bitcoin or use the first-in, first-out (FIFO) method to determine any potential gain or loss. The default rule for tracking basis in securities is FIFO. Taxpayers can also determine basis in securities by using the last-in, first out (LIFO), average cost, or specific identification methods. The prevalent thought is that these methods should be available for property that does not qualify as a security, and that taxpayers investing in cryptocurrency should use the method that is most beneficial to them. However, no direct IRS authority supports this position.

In sum, taxpayers must track their cryptocurrency purchases carefully. Each cryptocurrency purchase should be kept in a separate online wallet and appropriate records should be maintained to document when the wallet was established. If a taxpayer uses an account with several different wallet addresses and that account is later combined into a single wallet, it may become difficult to determine the original basis of each cryptocurrency that is used in a subsequent transaction.

The details of all cryptocurrency transactions in a network are stored in a public ledger called a “Blockchain,” which permanently records all transactions to and from online wallet addresses, including date and time. Taxpayers can use this information to determine their basis and holding period. Technology to assist taxpayers in this process is being developed currently and some helpful online tools are now available.

Characterization of Gain or Loss for Cryptocurrency Transactions

The character of gain or loss on a cryptocurrency transaction depends on whether the cryptocurrency is a capital asset in the taxpayer’s hands. Gain on the sale of a cryptocurrency that qualifies as a capital asset is netted with other capital gains and losses. A net long-term capital gain that includes gain on crypto transactions is eligible for the preferential tax rates on long-term capital gains, which is 15% or 20% for high net-worth taxpayers. Cryptocurrency gain constitutes unearned income for purposes of the unearned income Medicare contributions tax introduced as part of the Affordable Care Act. As a result, taxpayers with modified adjusted gross incomes over $200,000 ($250,000 for married taxpayers filing jointly) are subject to an additional 3.8% tax on cryptocurrency gain.

For example, on August 1, 2017, Jen, a sole proprietor, digitally accepts two Bitcoins from Steve as payment for services. On that date, Bitcoins are worth $10,000 each, as listed by Coinbase. Therefore, Jen recognizes $20,000 ($10,000 x 2) of business income. A month later, when Bitcoins are trading for $11,500 on the Coinbase exchange, Jen uses two Bitcoins to purchase supplies for her business. At that time, Jen will recognize $23,000 ($11,500 x 2) in business expense and $3,000 [($11,500 – $10,000) x 2] of gain due to the Bitcoin exchange. Since Jen isn’t in the trade or business of selling Bitcoins, the $3,000 gain is capital in nature.

Now let’s assume the same facts as above, except that Jen uses the two Bitcoins to purchase a new car for her personal use. According to the Coinbase exchange, Bitcoins are now trading at $8000. Jen will realize a loss of $4000 [($8000 – $10,000) x 2]. However, this loss is considered a nondeductible capital loss because Jen didn’t use the Bitcoins for investment or business purposes.  It is important to note that a payment using cryptocurrencies are subject to information reporting to the same extent as any other payment made in property. Thus, a person who, in the course of a trade or business, makes a payment using cryptocurrency with a fair market value of $600 or more is required to report the payment to the IRS and the payee’s cryptocurrency payments are subject to backup withholding. This means that persons making reportable payments with cryptocurrency must solicit a Taxpayer Identification Number (TIN) from the payee. If a TIN isn’t obtained prior to payment, or if a notification is received from the IRS that backup withholding is required, the payer must backup withhold from the virtual currency payment.

In summary, if a taxpayer acquires cryptocurrency as an investment and chooses to dispose of it by purchasing merchandise or services, any loss realized will be treated as a deductible investment loss. However, at times, it may be difficult to determine whether cryptocurrency is held for investment or personal purposes.

Employment Taxes and Information Reporting – Cryptocurrency Mining

According to Notice 2014-21, if a taxpayer’s mining of cryptocurrency is a trade or business, and the taxpayer isn’t classified as an employee, the net earnings from self-employment resulting from the activity will be subject to self-employment tax. Cryptocurrency mining is defined as a computationally intensive process that computers comprising a cryptocurrency network complete to verify the transaction record, called the “Blockchain”, and receive digital coins in return.  Cryptocurrency mining is considered a trade or business for tax purposes, in contrast to investing in cryptocurrencies which is considered an investment.  This is a crucial distinction since the taxation of investment gains or losses are subject to the capital gain/loss tax regime, whereas, business income is subject to a different tax regime.  A taxpayer generally realizes ordinary income on the sale or exchange of a cryptocurrency that is not a capital asset in his hands.

Inventory and property held for sale to customers are not capital assets, so income recognized by a miner of, or broker in, cryptocurrency is generally considered ordinary. If a taxpayer’s mining of cryptocurrency constitutes a trade or business, the net earnings from mining (gross income less allowable deductions) are subject to self-employment tax. Similarly, if an independent contractor receives virtual currency for performing services, the fair market value of such currency will be subject to self-employment tax. If cryptocurrency is paid by an employer to an employee as wages, the fair market value of the currency will be subject to federal income tax withholding, FICA and FUTA taxes, and must be reported on Form W-2 (Wage and Tax Statement).

Questions Remain

The IRS’s guidance in Notice 2014-21 clarifies various aspects of the tax treatment of cryptocurrency transactions. However, many questions remain unanswered, such as how cryptocurrencies should be treated for international tax reporting (FBAR & FATCA reporting) and whether cryptocurrencies should be subject to the like-kind exchange rules.

To learn more about using your retirement funds, including a Solo 401(k) Plan, to invest in cryptocurrencies, please contact a retirement expert from the IRA Financial Group @ 800.472.0646.

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Dec 18

What To Know Before Purchasing Cryptocurrencies With Retirement Funds

The following, written by Adam Bergman, first appeared on Forbes.com:

With the value of Bitcoins and many other cryptocurrencies flying high in 2017, many investors have looked to take advantage of this trend and own cryptocurrencies in tax-advantaged retirement plans, such as a Self-Directed IRA or Solo 401(k) Plan.  This article will explore the main points an investor should know before using retirement funds to buy cryptocurrencies.

What is a Cryptocurrency?

What To Know Before Purchasing Cryptocurrencies With Retirement FundsCryptocurrency refers to a decentralized digital currency that employs principles of cryptography (communication that is secure from view of third parties) to ensure security, privacy, and anonymity. Consequently, the value of a cryptocurrency is not set by anyone other than market participants, who engage in the process of buying and selling on an exchange platform.

Bitcoin has become the leader in shepherding in a wave of cryptocurrencies built on decentralized peer-to-peer network and is the primary standard for cryptocurrencies. The currencies inspired by Bitcoin are collectively called Altcoins and have tried to present themselves as modified or improved versions of Bitcoin.  The five most popular cryptocurrencies are Bitcoins, Ethereum (ETH) & Ethereum Classic, Litecoin, ZCash and Dash.  There are close to 1000 types of cryptocurrencies, so this list can vary over time.

How does the IRS Treat Cryptocurrencies from a Tax Standpoint?

Even though Bitcoin is labeled as a “cryptocurrency”, from a Federal income tax standpoint, Bitcoins and other cryptocurrency are not considered a “currency.”  On March 25, 2014, the IRS issued Notice 2014-21, which for the first time set forth the IRS position on the taxation of virtual currencies, such as Bitcoins.  According to the IRS Notice, “Virtual currency is treated as property for U.S. federal tax purposes.” The Notice further stated, “General tax principles that apply to property transactions apply to transactions using virtual currency.”  In other words, the IRS is treating the income or gains from the sale of a virtual currency, such as Bitcoins, as a capital asset, such as stocks or real estate, subject to either short-term (ordinary income tax rates) or long-term capital gains tax rates, if the asset is held greater than twelve months (15% or 20% tax rates based on income).  By treating Bitcoins and other virtual currencies as property (capital asset) and not currency, the IRS is requiring the investor to maintain detailed transaction records (i.e. basis, holding period, etc.) in order to determine the amount of tax from the cryptocurrency transaction(s).

Can I purchase Cryptocurrencies with a Retirement Account?

The Internal Revenue Code does not describe what a Self-Directed IRA or Solo 401(k) Plan can invest in, only what it cannot invest in. Internal Revenue Code Sections 408 & 4975 prohibits Disqualified Persons from engaging in certain types of transactions. The foundation of the prohibited transaction rules is based on the premise that investments involving an IRA and related parties are handled in a way that benefits the retirement account and not the IRA owner. The rules prohibit transactions between the IRA and certain individuals known as “disqualified persons.” The definition of a “disqualified person” (Internal Revenue Code Section 4975(e)(2)) extends into a variety of related party scenarios, but generally includes the IRA holder, any ancestors or lineal descendants of the IRA holder, and entities in which the IRA holder holds a controlling equity or management interest.

Because the IRS treats cryptocurrencies, such as Bitcoins, as a capital asset, such as stocks or real estate, a retirement account is permitted to buy, sell, or hold cryptocurrencies, subject to the prohibited transaction rules found under Internal Revenue Code Section 4975(c).

Why use a Retirement Account to Invest in Cryptocurrencies?

When purchasing cryptocurrencies, such as Bitcoins, with a Self-Directed IRA or Solo 401(k) Plan, all income and gains generated by your pre-tax retirement account investment would generally flow back into the retirement account tax-deferred or tax-free in the case of a Roth IRA. Instead of paying tax on the gains of the crypto investment, tax is paid only at a later date or never at all, in the case of a Roth IRA, leaving the crypto investment to grow unhindered without tax.

How to Use Retirement Funds to Buy, Hold, or Sell Cryptocurrencies?

In general, the two most popular ways to purchase cryptocurrencies with retirement funds is through a Self-Directed IRA or Solo 401(k) Plan.  Below is a step-by-step summary of how to purchase cryptocurrencies with a Solo 401(k) Plan:

A Solo 401(k) Plan is a qualified retirement plan that is established by a business with no full-time employees other than the owners or their spouses.

  1. Establish a Self-Directed Solo 401(k) Plan.
  2. Rollover retirement funds, cash or in-kind, tax-free to new Solo 401(k) Plan account.
  3. You, as trustee of the Solo 401(k) Plan, will then have “Checkbook Control” over all the assets/funds in the plan to make the cryptocurrency investment.
  4. A cryptocurrency account could be opened in the name of the Solo 401(k) Plan or a special purpose LLC wholly owned by the Solo 401(k) Plan. Many investors seem to like using an LLC wholly owned by a 401(k) plan as a vehicle to own the cryptos as it generally helps expedite the account opening process at the more popular cryptocurrency exchanges.
  5. You, as trustee of Solo 401(k) Plan or manager of the LLC, if applicable, will then wire the 401(k) funds to the new cryptocurrency account opened at a crypto exchange. The account will be opened in the name of the Solo 401(k) Plan or the LLC, if applicable.
  6. The cryptos can then be held at the exchange or via an online or offline wallet.
  7. Since a 401(k) plan is a tax-exempt qualified retirement plan, all income and gains from the cryptocurrency investment would flow back to the Solo 401(k) Plan tax-deferred or tax-free in the case of a Roth Solo 401(k) account. Whereas, a special purpose LLC wholly owned by a 401(k) plan would be treated as a disregarded entity for tax purposes. No Federal income tax return is required to be filed, although, some states may impose filing or franchise taxes on the LLC. Accordingly, in general, all income and gains from the cryptocurrency investment should flow back to the 401(k) plan without tax. One should consult with their tax advisor to better understand the implications of using a special purpose LLC wholly owned by a 401(k) plan to purchase cryptocurrencies.

Cryptocurrency investments, such as Bitcoins, are risky and highly volatile.  Any retirement account investor interested in using retirement funds to invest in cryptocurrencies should do their diligence and proceed with caution.

For more information about using a Solo 401(k) to invest in cryptocurrencies, please contact us @ 800.472.0646.

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Dec 11

IRA Financial Group Releases Cryptocurrency E-Info Kit for Solo 401(K) Plan Investors

New Bitcoin E-Kit will help investors understand how to purchase cryptocurrencies with 401(k) funds

IRA Financial Group, the leading provider of self-directed IRA LLC and Solo 401(k) Plans, announces the launch of a new Cryptocurrency E-Info Kit. The free cryptocurrency information kit will help retirement account holders looking to purchase cryptocurrencies, such as Bitcoins, with their retirement accounts to better understand what is involved in the process. “The IRA Financial Group Crypto E-Info Kit will help guide retirement account holders looking to use a Solo 401(k) plan to buy cryptocurrencies, such as bitcoins,” stated Adam Bergman, a partner with the IRA Financial Group.

IRA Financial Group’s Crypto 401(k) platform with checkbook control will allow retirement account holders to buy, sell, or hold Bitcoins and other cryptocurrency assets and generate tax-deferred or tax-free gains, in the case of a Roth Solo 401(k). The primary advantage of using a Solo 401(k) to make Bitcoin investments is that all income and gains associated with the 401(k) investment grow tax-deferred.IRA Financial Group Releases Cryptocurrency E-Info Kit for Solo 401(K) Plan Investors

IRA Financial Group is the market’s leading provider of self-directed retirement plans. IRA Financial Group has helped thousands of clients take back control over their retirement funds while gaining the ability to invest in almost any type of investment, including real estate without custodian consent. The IRA Financial Trust Company, a self-directed IRA custodian, was founded by Adam Bergman, a partner with the IRA Financial Group.

IRA Financial Group is the market’s leading provider of self-directed retirement plans. IRA Financial Group has helped thousands of clients take back control over their retirement funds while gaining the ability to invest in almost any type of investment, including real estate without custodian consent.

Adam Bergman, IRA Financial Group partner, has written six books the topic of self-directed retirement plans, including, “The Checkbook IRA”, “Going Solo,” Turning Retirement Funds into Start-Up Dreams, Solo 401(k) Plan in a Nutshell, Self-Directed IRA in a Nutshell, and in God We Trust in Roth We Prosper.

To learn more about the IRA Financial Group please visit our website at http://www.irafinancialgroup.com or call 800-472-0646.

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Sep 27

IRA Financial Group Introduces New Solo 401(k) Plan Bitcoin Solution For Retirement Account Investors

Solo 401(k) Plan option offers retirement account holders the ability to trade or hold Bitcoins and other cryptocurrency without tax

IRA Financial Group, the leading provider of Solo 401(k) Plan solutions, is proud to announce the introduction of the Bitcoin Solo 401(k) Plan option to all retirement account holders. IRA Financial Group’s Bitcoin Solo 401(k) Plan solution will allow retirement account holders to buy, sell, or hold Bitcoins and other cryptocurrency assets and generate tax-deferred or tax-free gains, in the case of a Roth Solo 401(k) Plan. “Bitcoins have become a popular investment diversification option for many of our Solo 401(k) Plan investors in 2017, who are interested in using a tax-efficient manner to buy and sell Bitcoins,” stated Adam Bergman, a partner with the IRA Financial Group.

IRA Financial Group Introduces New Solo 401(k) Plan Bitcoin Solution For Retirement Account InvestorsAccording to Mr. Bergman, IRA Financial Group’s Solo 401(k) Plan Bitcoin solution is so attractive to Bitcoin investors because it gives them the control to buy, hold, or sell Bitcoins themselves. The primary advantage of using a Solo 401(k) Plan to make Bitcoin investments is that all income and gains associated with the Solo 401(k) investment grow tax-deferred or tax-free, in the case of a Roth Solo 401(k).

IRA Financial Group’s Bitcoin Solo 401(k) Plan for cryptocurrency investors is an IRS approved structure that allows one to use their retirement funds to make Bitcoin and other investments tax-free and without custodian consent.

IRA Financial Group is the market’s leading provider of self-directed retirement plans. IRA Financial Group has helped thousands of clients take back control over their retirement funds while gaining the ability to invest in almost any type of investment, including real estate, without custodian consent.

Adam Bergman, IRA Financial Group partner, has written six books on the topic of self-directed retirement plans, including, “The Checkbook IRA”, “Going Solo”, “Turning Retirement Funds into Start-Up Dreams”, “Solo 401(k) Plan in a Nutshell”, “Self-Directed IRA in a Nutshell”, and “In God We Trust in Roth We Prosper”. Mr. Bergman is also the founder of The IRA Financial Trust Company, a Self-Directed IRA custodian.

To learn more about the IRA Financial Group, please visit our website at http://www.irafinancialgroup.com or call 800-472-0646.

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Aug 01

Using a Solo 401(k) to Invest in Bitcoin

Bitcoin is usually described as virtual currency. That’s useful shorthand, but is it really money? And should it be taxed as if it is? Or is it a capital asset? How about a commodity? Or what about a collectible? Most commentators have viewed bitcoins either as a virtual type of currency or capital asset. However, the potential still exists that the IRS could argue that bitcoins do not satisfy the main functions of money and acts more like a stamp or other collectible than a currency.

Using a Btcoin 401k to Invest in virtual currency.In Notice 2014-21, the IRS stated that it would tax digital money such as bitcoin like property, not currency. On March 25, 2014, the IRS issued Notice 2014-21, which for the first time set forth the IRS position on the taxation of bitcoins. According to the IRS, “Virtual currency is treated as property for U.S. federal tax purposes,” the notice said. “General tax principles that apply to property transactions apply to transactions using virtual currency.” By treating bitcoins as property and not currency, the IRS is providing a potential boost to investors but it is also imposing extensive record-keeping rules—and significant taxes—on its use. In a notice, the IRS said that it generally would treat bitcoin held by investors much like stock or other intangible property. If the virtual currency is held for investment, any gains would be treated as capital gains, meaning they could be subject to lower tax rates. The top long-term capital gains tax rate is 20%, while the top ordinary income-tax rate is 39.6%, although add-on taxes often make both rates somewhat higher. But as capital investments, loss deductions from bitcoin often would be limited, whereas currency losses can be easier to deduct up front.

The IRS guidance in Notice 2014-21 targets a new crop of digital currencies used by a small number of merchants, consumers and investors. Bitcoin, the best-known of the group, is created using a computer process and can be exchanged for dollars online.

Although IRS Notice 2014-21 did not address whether bitcoins would be considered an approved investment for retirement purposes, the fact that the Notice is treating bitcoins as property, like stock, and not as a collectible, it should be clear bitcoin is an approved investment for IRAs and 401(k) plans and would not violate IRC 408(m).

For many retirement investors, the investment in bitcoins via a Solo 401(k) plan could prove a very tax efficient manner for transacting with bicoins as use of bitcoin in a retail transaction typically would be a taxable “event” for many buyers, requiring them to figure out the gain they had made on the virtual currency—and eventually pay tax on it, whereas, the gains would likely not be subject to tax with retirement funds. However, the IRS stated in the Notice that bitcoin “miners”—including people who use computers to validate bitcoin transactions or maintain transaction ledgers—also would be subject to tax on payments received in bitcoin and that “mining” that constitutes a trade or business would be subject to self-employment taxes. Accordingly, dealers in bitcoin—much like dealers in other types of property—would be subject to different tax principles than individual investors, and their gains generally would be taxed as ordinary income.

Notice 2014-21 is important because it sets forth some clarity by the IRS about the tax treatment of virtual currencies, but it also raised new questions, such as what government body would be in charge of regulation.

With IRA Financial Group’s self-directed retirement plans, retirement account investors have the ability to make traditional as well as alternative asset investments, such as real estate and bitcoins, in a tax-deferred or tax-free basis.

Why Work With the IRA Financial Group?

The IRA Financial Group was founded by a group of top law firm tax and ERISA lawyers who have worked at some of the largest law firms in the United States, such as White & Case LLP, Dewey & LeBoeuf LLP, and Thelen LLP. Over the years, we have helped thousands of clients establish IRS compliant Self-Directed retirement solutions. With our work experience at some of the largest law firms in the country, our retirement tax professionals’ tax and IRA knowledge in this area is unmatched.

To learn more about using a “Checkbook Control” Solo 401(k) to make bitcoin and other investments without tax, please contact one of our 401(k) Experts at 800-472-0646 for more information.

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Jul 12

New Podcast – Using a Solo 401k to Buy Bitcoins and Cryptocurrency

IRA Financial Group’s Adam Bergman discusses how to use a Solo 401k Plan to buy Bitcoins and Cryptocurrency, as interest in virtual currency continues to increase.

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Click Here to Listen

 

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Jun 28

Cryptocurrencies, Such as Bitcoin, Offer Opportunities for Solo 401k Investors

For a growing number of investors, cryptocurrency is not only the future of money, but also an attractive and potentially profitable investment asset, though highly risky and volatile.  Bitcoin has become the public’s most visible and popular cryptocurrency and it is also among the oldest, having first emerged in 2009.  Over one year, the market capitalization for bitcoin has increased enormously, from around $7.16 billion in May 2016 to $27.9 billion today.  As the price of bitcoin has risen over the last year or so, so has the confidence among investors, including retirement account investors.

Cryptocurrencies, Such as Bitcoin, Offer Opportunities for Solo 401k InvestorsThe process of buying cryptocurrency is still somewhat unclear for a lot of people. It’s not a stock or a traditional investment.  For most people in the U.S., Coinbase would be the easiest option to buy cryptocurrency, such as bitcoin, Ethereum, or Litecoin.  After verifying the account, the investor can add a number of payment methods including credit or debit cards, U.S. bank accounts, or even wire transfers of funds.  Cryptocurrency transactions are not anonymous and the identify of the currency owner can be traced back to a real-world identity.

As a cryptocurrency, bitcoin is generated through the process of “mining”—essentially using your computer’s processing power to solve complex algorithms called “blocks.”  One can buy and sell bitcoin on an exchange, much like a physical currency exchange, converting wealth from bitcoin to US dollars to other national currencies, back to dollars or bitcoin. And that’s how money is made.

Even though bitcoin is labeled as a “cryptocurrency”, from a federal income tax standpoint, bitcoin and other cryptocurrency are not considered a “currency”.  On March 25, 2014, the IRS issued Notice 2014-21, which, for the first time, set forth the IRS position on the taxation of virtual currencies, such as bitcoin.  According to the IRS Notice, “Virtual currency is treated as property for U.S. federal tax purposes.” The Notice further stated “General tax principles that apply to property transactions apply to transactions using virtual currency.”  In other words, the IRS is treating the income or gains from the sale of a virtual currency, such as bitcoin, as a capital asset, subject to either short-term (ordinary income tax rates) or long term capital gains tax rates, if the asset is held greater than twelve months (15% or 20% tax rates based on income).  By treating bitcoins and other virtual currencies as property and not currency, the IRS is imposing extensive record-keeping rules—and significant taxes—on its use.

The IRS tax treatment of virtual currency has created a favorable tax environment for retirement account investors.  In general, when a retirement account generates income or gains from the purchase and sale of a capital asset, such as stocks, mutual funds, real estate, etc., irrespective of whether the gain was short-term (held less than twelve months) or long-term (held greater than twelve months), the retirement account does not pay any tax on the transaction and any tax would be deferred to the future when the retirement account holder takes a distribution (in the case of a Roth 401(k) plan no tax would be due if the distribution is qualified).  Hence, using retirement funds to invest in cryptocurrencies, such as bitcoin, could allow the investor to defer or even eliminate in the case of a Roth, any tax due from the investment.  Note – retirement account investors interested in mining bitcoins versus trading, could become subject to the unrelated business taxable income tax rules if the “mining” constituted a trade or business.

As I mentioned earlier, cryptocurrency investments, such as bitcoin, are risky and highly volatile.  Any investor interested in learning more about bitcoin should do their due diligence and proceed with caution.

With an IRA Financial Group Solo 401(k) plan, you have an exciting opportunity to invest in cryptocurrencies.  For more information, please contact us @ 800.472.0646.

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Jan 24

IRS Tax Treatment When Using a Solo 401(k) to Invest in Bitcoin

Bitcoin is usually described as virtual currency. That’s useful shorthand, but is it really money? And should it be taxed as if it is? Or is it a capital asset? How about a commodity? Or what about a collectible? Most commentators have viewed bitcoins either as a virtual type of currency or capital asset. However, the potential still exists that the IRS could argue that bitcoins do not satisfy the main functions of money and acts more like a stamp or other collectible than a currency.

IRS Tax Treatment When Using a Solo 401(k) to Invest in BitcoinIn Notice 2014-21, the IRS stated that it would tax digital money such as bitcoin like property, not currency. On March 25, 2014, the IRS issued Notice 2014-21, which for the first time set forth the IRS position on the taxation of bitcoins. According to the IRS, “Virtual currency is treated as property for U.S. federal tax purposes,” the notice said. “General tax principles that apply to property transactions apply to transactions using virtual currency.” By treating bitcoins as property and not currency, the IRS is providing a potential boost to investors but it is also imposing extensive record-keeping rules—and significant taxes—on its use. In a notice, the IRS said that it generally would treat bitcoin held by investors much like stock or other intangible property. If the virtual currency is held for investment, any gains would be treated as capital gains, meaning they could be subject to lower tax rates. The top long-term capital gains tax rate is 20%, while the top ordinary income-tax rate is 39.6%, although add-on taxes often make both rates somewhat higher. But as capital investments, loss deductions from bitcoin often would be limited, whereas currency losses can be easier to deduct up front.

The IRS guidance in Notice 2014-21 targets a new crop of digital currencies used by a small number of merchants, consumers and investors. Bitcoin, the best-known of the group, is created using a computer process and can be exchanged for dollars online.

Although IRS Notice 2014-21 did not address whether bitcoins would be considered an approved investment for retirement purposes, the fact that the Notice is treating bitcoins as property, like stock, and not as a collectible, it should be clear bitcoin is an approved investment for 401(k) plans and would not violate IRC 408(m).

For many retirement investors, the investment in bitcoins via a Solo 401(k) plan could prove a very tax efficient manner for transacting with bicoins as use of bitcoin in a retail transaction typically would be a taxable “event” for many buyers, requiring them to figure out the gain they had made on the virtual currency—and eventually pay tax on it, whereas, the gains would likely not be subject to tax with retirement funds. However, the IRS stated in the Notice that bitcoin “miners”—including people who use computers to validate bitcoin transactions or maintain transaction ledgers—also would be subject to tax on payments received in bitcoin and that “mining” that constitutes a trade or business would be subject to self-employment taxes. Accordingly, dealers in bitcoin—much like dealers in other types of property—would be subject to different tax principles than individual investors, and their gains generally would be taxed as ordinary income.

Notice 2014-21 is important because it sets forth some clarity by the IRS about the tax treatment of virtual currencies, but it also raised new questions, such as what government body would be in charge of regulation.

With IRA Financial Group’s self-directed retirement plans, retirement account investors have the ability to make traditional as well as alternative asset investments, such as real estate and bitcoins, in a tax-deferred or tax-free basis.

Why Work With the IRA Financial Group?

The IRA Financial Group was founded by a group of top law firm tax and ERISA lawyers who have worked at some of the largest law firms in the United States, such as White & Case LLP, Dewey & LeBoeuf LLP, and Thelen LLP. Over the years, we have helped thousands of clients establish IRS compliant Solo 401(k) solutions. With our work experience at some of the largest law firms in the country, our retirement tax professionals’ tax and IRA knowledge in this area is unmatched.

To learn more about using a “Checkbook Control” Solo 401(k) to make bitcoin and other investments without tax, please contact one of our Solo 401(k) Experts at 800-472-0646 for more information.

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