The AICPA recently asked the IRS for some equitable relief by adopting a “de minimus election,” which provides a $200 threshold for excluding capital gains income on personal transactions.
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If a taxpayer purchases virtual currency (cryptocurrency) and spends it on personal use, the IRS requires him to calculate a capital gain or loss on each transaction. Capital gains on personal-use property are reportable and subject to tax, whereas, the IRS disallows capital losses.
The AICPA recently asked the IRS for some equitable relief by adopting a “de minimus election,” which provides a $200 threshold for excluding capital gains income on personal transactions.(See the AICPA letter and an excerpt of the de minimus rule proposal below.)
If a taxpayer acquires virtual currency as an investment, though, then all capital gains and capital losses are reportable, and the de minims rule should not apply.
The AICPA suggests the IRS apply a similar de minimus rule used for foreign currency transactions in Section 988(e)(2) (see below). The code section refers to personal purchases, not Section 162 business or Section 212 investment property. For example, if a taxpayer acquired Euros for a European vacation, the de minimus rule applies, and the taxpayer can exclude capital gains on the Euros spent if the capital gain is under $200 per transaction.
The IRS does not permit taxpayers to deduct capital losses on personal-use property, including foreign currency or virtual currency held for personal use. Taxpayers may not deduct capital losses on the sale of a private auto or a primary residence.
Examples of using crypto for personal use vs. investment property
1. Joe purchased one Bitcoin in early 2017 for personal-use spending, and his Bitcoin rose in price substantially during the year. Joe planned on many vendors adopting Bitcoin as a means of payment. Joe’s original intention was for personal use, so a de minimus exemption should apply to him if the IRS approves that AICPA recommendation*. If Joe bought Bitcoin in 2018, he might have a capital loss, which would be non-deductible on personal-use property.
2. Nancy invested in 10 Bitcoins in early 2017, and her intention was capital appreciation and diversification into a new asset class. She spent Bitcoin frequently during the year on personal transactions, buying goods and services wherever Bitcoin was accepted. She hoped it would be tax-free, but it’s not.
The intention of the taxpayer is critical in determining tax treatment. If the aim is for personal use, then the de minimus rule should apply to capital gains under $200, and capital losses are not deductible. If the intention is for investment, then it’s capital gains and losses. If the purpose is for business, ordinary gain or loss treatment applies.
With tax treatment hinging on category (personal use, investment, and business), it’s wise to segregate cryptocurrency into these buckets carefully. If the IRS agrees with the AICPA proposal on the de minimus exemption, declare a crypto wallet for personal use, and the rest as an investment to protect capital loss treatment on the bulk of your crypto that you don’t plan to spend.
Excerpt from the AICPA letter
4. Need for a De Minimis Election
“Overview: Some taxpayers may only have a minimal amount of virtual currency that is designated for making small purchases (such as buying coffee). Tracking the basis and FMV of the virtual currency for each of these small purchases is time consuming, burdensome, and will yield a de minimis amount of gain or loss. A binding election applicable for a specified amount of virtual currency is beneficial to taxpayers.
Currently, section 988(e)(2) allows for an exclusion of up to $200 per transaction for foreign currency exchange rate gain, if derived from personal purchase. The same exclusion should apply to virtual currencies even though they are considered property rather than foreign currency.
Q-9: May individuals use a de minimis rule for virtual currency similar to the section 988(e)(2) exclusion of up to $200 per transaction for foreign currency exchange rate gain?
A-9: Yes. Individuals may use a de minimis rule, similar to section the 988(e)(2) exclusion, for virtual currency transactions to alleviate the burden or recordkeeping for individuals who use virtual currency as a medium of exchange. This de minimis rule allows taxpayers to exclude transactions resulting in $200 or less of gain.”
Section 988(e)(2) Exclusion for certain personal transactions
(A) nonfunctional currency is disposed of by an individual in any transaction, and
(B) such transaction is a personal transaction,
no gain shall be recognized for purposes of this subtitle by reason of changes in exchange rates after such currency was acquired by such individual and before such disposition. The preceding sentence shall not apply if the gain which would otherwise be recognized on the transaction exceeds $200.
(3) Personal transactions. For purposes of this subsection, the term “personal transaction” means any transaction entered into by an individual, except that such term shall not include any transaction to the extent that expenses properly allocable to such transaction meet the requirements of—
(A) section 162 (other than traveling expenses described in subsection (a)(2) thereof), or
(B) section 212 (other than that part of section 212 dealing with expenses incurred in connection with taxes).”
(Note: Section 162 is for business, and Section 212 is for investments.)
* The IRS has made no indication that they intend to adopt all, or any, of the many excellent recommendations from the AICPA.
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Author: Robert Green