Taxation of Cryptocurrency

What is cryptocurrency?

Cryptocurrency is a digital asset that is validated by a consensus method. A consensus mechanism consists of individual computers working together to verify all transactions within the realm to create a mutually verifiable ledger. This ledger is what makes legitimacy to the currency and allows confidence within transactions of the currency. This group of validators, “miners,” and their ecosystem of ledger verification with miners is referred to as the “blockchain.”

In cryptocurrency exchange, the transferer and transferee use the blockchain to verify funds before and when the transaction occurs. With this design, manipulation and fraud are structurally improbable. A small fee in the transaction is bestowed upon the transferer to compensate the miners. The different organizational structures between the miners and their blockchain are what differentiates one cryptocurrency from another. Today there are thousands of currencies with a few specifically popular ones.

How does cryptocurrency produce a financial gain or loss?

Like many other financial instruments, cryptocurrencies are subject to the economic idea of scarcity. Although they can be earned while mining, there is a finite amount of each currency; thus, demand exists and can rise. Crypto’s value can also fluctuate upon its viability and perceived value through its utility. The utility of specific crypto is subject to a multitude of factors, including the usability of the coin and blockchain, the features of the coin (dividends, voting rights, etc.), and the overall popularity of the specific crypto.

How are the gains taxed in the United States?

In the United States, cryptocurrency is taxed as a property and not a currency that creates a taxation set that some believe is unfair. According to the IRS, all cryptocurrency transactions which resulted in a gain or loss must be reported. Some cryptocurrency exchanged might not help facilitate the tax forms, but the taxpayer is still responsible for reporting it.

There is a question on the federal tax return regarding whether you had any cryptocurrency transactions within the year. Taxable events can be classified as; selling crypto for cash, paying for goods, buying crypto with crypto, mining crypto, being paid in crypto, receiving crypto rewards. Nontaxable events within crypto are; donating crypto to a qualified charity, buying crypto and holding it, transferring from wallet to wallet, up to USD 15,000 of gifts, and transferring in crypto from an external source. There are different inventory methods used for accounting the transactions; LIFO and Specific Identification are the two available to U.S. taxpayers.

How are the gains taxes in Israel?

Since 2018, the Israel Tax Authority (ITA) has also classified cryptocurrency as a tradeable asset and not currency, like the United States. In addition, the ITA recognizes all gains and losses to be of a capital nature.

Capital gains in Israel are taxed at 25 percent, and the taxpayer needs to provide records on their tax return to support their claims of gains or losses. If the nature of business with the crypto is to be classified as a business expense, the tax rate will be much higher, up to 53 percent. When crypto is converted to a recognized currency, the difference in the amount paid and purchased will be used for tax purposes, as the U.S. standard of net realizable value.

Failure to report income such as cryptocurrency on your tax reports in Israel is a criminal offense.

What is the future of cryptocurrency worldwide?

Taxation of cryptocurrency within the United States and Israel is currently pretty similar. Both countries now tax cryptocurrency as an investment property instead of a currency, thus earning more in tax revenue. However, public opinion of these practices is not very good, and some believe there should be reform within the tax code to reflect cryptocurrency as a recognized currency.

Debates still arise on the validity and long-term health of cryptocurrencies in the marketplace. Until many of these questions have been answered, the taxation of these assets is unlikely to change.