Guide to Basic Crypto Terms from Ledgible and Checkpoint – Thomson Reuters Tax & Accounting

Guide to Basic Crypto Terms from Ledgible and Checkpoint – Thomson Reuters Tax & Accounting

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Learning about the ins and outs of the cryptocurrency industry can be daunting. The industry is new, and its processes are still growing and changing. Checkpoint, along with the crypto experts at Ledgible, have put together some basic terms and tax issues to help your clients navigate this new world. Checkpoint Federal Tax Update subscribers can download a PDF of this Cryptocurrency Primer at this link.

Basic Crypto Terms

Bitcoin

A digital currency created for use in peer-to-peer online transactions. One of the largest

cryptocurrencies in the market, Bitcoin can be used as an alternative payment method,

accepted by several major companies such as Microsoft, Whole Foods, and Home Depot.

Blockchain

A digital database containing information (such as records of financial transactions) that can be simultaneously used and shared within a large decentralized, publicly accessible

network. The sequence of the blocks periodically grouped together in a block of recent

transactions in the network.

Coins/Tokens

Cryptographic assets can be described as either tokens or coins. The difference between

these two is based on the asset’s functionality but in practice the terms can be used

interchangeably.

Cryptocurrency

Any form of currency that only exists digitally, that usually has no central issuing or

regulating authority but instead uses a decentralized system to record transactions and

manage the issuance of new units, and that relies on cryptography to prevent counterfeiting

and fraudulent transactions.

Cryptography

The enciphering and deciphering of messages in secret code or cipher and the

computerized encoding and decoding of information. Cryptography is the mechanism for

securely encoding the rules of a cryptocurrency system.

Earnings Management

Manipulation of accounting numbers and structuring transactions to mislead or influence

outcomes depending on accounting numbers.

Fiat Currency

Paper money or coins which have little or no intrinsic value in themselves and are not

convertible into gold or silver but are made legal tender by order of a government. For

example, the Euro or U.S. Dollar.

Mining

The activity or process of searching through large amounts of information for specific data

or patterns. Mining is a process where a miner solves a transaction puzzle and publishes a

block which contains a proof-of-work and other miners verify the solution.

Miner

Miners are individuals who solve computational problems allowing them to put transactions

securely on the blockchain and receive the block reward and a possible fee attached to

those transactions.

Using and Acquiring Crypto

Sales

Selling crypto triggers a taxable event. The character of the gain or loss depends on

whether the crypto is a capital asset (e.g., stocks, bonds, and investment property) in the

hands of the taxpayer and the length of time the position was held.

Purchases

If a taxpayer receives virtual currency as payment for goods or services, it should be

included in gross income at fair market value on the date of receipt. Since crypto is treated

as property for federal tax purposes, exchanging crypto for a good or service results in a

disposal of the crypto, and consequently a short or long-term gain or loss would need to be

calculated and reported. First-In, First-Out (FIFO) and Specific Identification are currently

acceptable cost basis methods.

Swaps

Swapping one cryptocurrency for another is treated the same way as if you sold for U.S.

dollars and purchased the new crypto with U.S. dollars.

Hard Forks

Revenue Ruling 2019-24 states that if you received new units of cryptocurrency as a result

of a hard fork, you will need to recognize ordinary gross income based on the fair value of

the new coin or token at the time of receipt. There are further considerations, such as

whether your wallet supported the new chain or whether you needed to act to claim the

forked coin before you exercised “dominion and control” and had “accession to wealth.”

Airdrops

Revenue Ruling 2019-24 also states that if you received new units of cryptocurrency as a

result of an airdrop, the taxpayer would recognize ordinary gross income based on the fair

value of the new coin or token at the time of receipt.

To learn more about how to advise crypto holders, see Checkpoint’s Federal Tax Coordinator Checklist ¶6015 (Providing Services to Individual Clients Who Are Cryptocurrency Owners).

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