Cryptocurrency and Taxes: What You Need to Know This year, for the first time, federal tax forms ask about your bitcoin and other cryptocurrency activities. Here's a look at the implications for your income taxes.

Cryptocurrency is digital currency, or a "digital representation of value," as the IRS puts it. You can't see it, hold it in your hand, or put it in your wallet. It's been in use for over a decade and has grown in popularity over the last few years. Instead of using a bank to create, transfer, and exchange funds, cryptocurrency employs a distributed, encrypted blockchain network to process transactions. No bank or government authority controls it as they do with traditional currencies. So, if you have used cryptocurrency this year, what are the implications for when you file your taxes?

A Cryptocurrency Primer

First of all, let's make sure we're all on the same page when it comes to this new kind of money. Cryptocurrency units are referred to as coins, even though there's no physical coin. You store coins in a digital wallet or use an exchange or brokerage. Major providers of these include Coinbase, Kraken, Binance, and Jaxx. Bitcoin was the first cryptocurrency and it remains the most popular, though it's been joined by Ethereum and Litecoin, among others. Cryptocurrency can be used to pay for goods or services, to invest, or simply to exchange funds with someone else. The coins can also be exchanged for traditional currency. You can find real-time exchange prices for Bitcoin here. Cryptocurrency transactions are recorded in an anonymized blockchain, which can be thought of as a digitized public ledger.

This form of money is still in its infancy, so don't expect to use it for online shopping, though some vendors have started accepting it. It's fairly popular among online gambling sites, and you could even buy a Lamborghini with it. Some employers, too, have started paying employees with it; the dollar value of the cryptocurrency at the time of the transaction is treated as W-2 or 1099 income. The mechanics of using cryptocurrency are often as simple as scanning a QR code or copy and pasting a long ID, but what happens in the background is far more involved than your typical bank transaction, since the transaction has to be verified by lots of distributed servers, rather than one bank or exchange.

Cryptocurrency as Property

If you've been using cryptocurrency, but not paying taxes on its related transactions, you're not alone. You're also not compliant with IRS regulations, which could catch up with you someday. The agency may penalize you unless you can prove "reasonable cause."

Since 2014, the IRS has considered cryptocurrency to be property. Taxpayers are required to report transactions involving virtual currency as US dollars on their tax returns, which means they must determine its fair market value as of the transaction date. You can determine fair market value by converting the virtual currency into US dollars or into another currency that can then be converted into US dollars (this is assuming the currency's exchange rate is established by market supply and demand).

Obviously, you need to do some seriously precise bookkeeping if you're planning to use cryptocurrency. There are several accounting solutions designed for this, but QuickBooks may work just fine for you (with some workarounds). You should start keeping detailed records from the start, since reconstructing years of transactions could be difficult, or even impossible.

Does this mean you could be on the hook for transactions going back to 2014? Yes. In fact, the IRS sent letters last year to taxpayers who'd been involved in cryptocurrency transactions, informing them that they had to file amended returns and pay back taxes. It's also released a new form for the 2019 tax year. The Schedule 1 now includes the following phrase above Part I: Additional Income: "At any time during 2019, did you receive, sell, send, exchange, or otherwise acquire any financial interest in any virtual currency?"

Capital Assets and Cryptocurrency

If you sell your home because you're moving or some stocks because you want to take your profit, these properties are considered capital assets. It's similar for virtual currencies. You pay capital gains taxes on them—either short (held less than a year, and taxed as normal income) or long term—on your Schedule D. These are calculated just like other capital gains and losses: You take your cost basis (the amount you paid for the currency) and calculate how much it's gone up or down since that date. Capital gains rates for the 2019 tax year can be 0, 15, or 20 percent, depending on your taxable income.

If you're selling property as a part of a business or trade, however, the property is not considered a capital asset and is taxed as ordinary income. This applies to virtual currency sales, too. The IRS looks at the "character" of the gain or loss—your intent, or why you're selling.

Cryptocurrency and TurboTax

TurboTax is the only tax preparation website that walks you through the process of recording a cryptocurrency sale. It does so thoroughly and with lots of guidance. This tax topic is not included in the Deluxe version, though. You'll have to spring for Premier or Self-Employed.

You can find the cryptocurrency mini-wizard under Investment Income. There are four situations that would require you to complete this section. You'd do so if you:

• Sold cryptocurrency

• Converted cryptocurrency to a conventional currency like US dollars

• Exchanged one of the various types of cryptocurrency for another one

• Used cryptocurrency to purchase products or services

Cryptocurrency transactions are sometimes reported on Form 1099-B, Form 1099-K, or a tax statement that your exchange sent to you. Exchanges are not required to send these forms out, so don't be surprised if you don't have one from 2019. It's your responsibility to keep track of your transactions. You can do so by downloading your order or trading history from your exchange's website as a CSV file. If you're a frequent trader, you should be doing this at periodic intervals throughout the year, since your exchange may limit you to three months of data, for example. You'll also be able to enter the data manually.

TurboTax allows you to download CSV files from eight cryptocurrency services: Coinbase, Bitcoin.Tax, BitTaxer, CoinTracker, CryptoTrader.Tax, Robinhood, TokenTax, and ZenLedger. You can either drag and drop your files or browse your system for them.

When you enter your data manually. TurboTax needs the service name, asset name (like Bitcoin or Ethereum), purchase date, cost basis, sale date, and sale proceeds. You may have to contact your exchange if your CSV files' labels don't match those in TurboTax exactly. The site provides the fields you'll need to complete for each transaction on one screen.

After you enter this data and click Continue, a summary of the transaction will appear. You can either add more transactions or continue with the return if you're finished. A final summary tells you whether it was a short-term or long-term gain or loss, and if the transaction will be reported on your tax return.

Professional Help Needed?

If 2019 was the first year you experienced cryptocurrency "taxable events," you may be able to report all of your activity using TurboTax. The IRS considers taxable events as:

• Converting virtual currency to a currency like US dollars

• Trading cryptocurrency with another cryptocurrency

• Purchasing goods and services with virtual currency

• Receiving income in cryptocurrency

You can give virtual currency as a gift, transfer it between wallets or exchanges, and purchase it with US dollars without creating a taxable situation. But if you have numerous taxable events under your belt or need to catch up from past years, you may need to consult a professional, preferably a CPA who specializes in virtual currency tax issues.