IRS Says Bitcoin Taxable as Property, Not Currency

by Bill Sweet

Today, the IRS released Notice 2014-21, which discusses some early guidance on the taxation of virtual currencies, including Bitcoin. The full notice is here.

The biggest takeaway from the notice was that Bitcoin itself would be treated as property - not as currency - when it is used in exchange for goods and services. As such, for every single transaction, an adjustment must be made to calculate the immediate value in currency terms (usually, US dollars) of the transaction, "in a reasonable manner that is consistently applied."

Because the value of Bitcoin and other digital currencies fluctuates, a taxpayer who liquidates Bitcoins would likely incur a taxable gain (or loss) from the original purchase price. Because Bitcoin is treated as a capital asset, the gain or loss would be treated as a capital gain.

Capital gains are subject to favorable tax treatment, which is good news, but generally only if held by the taxpayer for more than one year. The bad news is that each transaction involves two calculations - the fair market value of the Bitcoin exchanged vs. the goods and services received, as well as the capital gain or loss traced back to the original purchase of the Bitcoin.

Any Bitcoin mining is considered gross income at the fair market value of the virtual currency. Thus, someone who mines Bitcoin would have to report the fair market value of that mining activity as gross income, probably via Schedule C. This income would be self-employment taxable (about 14.3%) as well as income taxable at the taxpayer's marginal income tax rate.

This is a developing issue, but the IRS was wise to get out ahead of this. I'm guessing that a large majority of Bitcoin-related activity for the past few years has gone completely under the tax radar, so it really was just a matter of time before the tax man came looking.

Some other coverage in the media: