In 2009, Bitcoin became the first major peer-to-peer currency to be traded digitally, rather than in banks. Since that time, the digital currency, as it’s called by many, has generated a lot of attention. Given that people use Bitcoin as if it’s the U.S. dollar, a number of tax-related issues have circulated.
Finally, officials from the Internal Revenue Service have made a decision about how to handle Bitcoin and other digital currencies. This peer-to-peer money should be treated as property, not currency for tax purposes.
In a scenario where an employee is paid in Bitcoin, rather than dollars, it is still considered taxable income. However, the tax rate would be determined based on the calculated value in U.S. dollars the day that a payment was made in Bitcoin.
Beyond earnings, Bitcoin could also be subject to capital gains taxes. If a person is holding the currency as a capital asset, like other types of investments, positive changes in value could be subject to taxation.
Of course, given the dramatic fluctuations in Bitcoin’s value, there is room for error when dealing with tax burdens. Businesses and individuals who hold or conduct transactions with Bitcoin will need to make sure that they accurately value the currency. Any discrepancies in this regard could open the door to a tax dispute.
Although the future success or prevalence of Bitcoin or equivalent currencies isn’t certain at this point in time, this recent ruling from the IRS provides important guidance to those who use or are paid in Bitcoin, particularly as they seek to prevent or resolve tax disputes.
Source: USA Today, “IRS: Bitcoin is not currency,” Donna Leinwand Leger, March 25, 2014