Increased crypto tax enforcement has been brought to light, especially with Kraken's recent John Doe Summons. This summons is being used by the Internal Revenue Service (IRS) to request information on specific users subject to a certain threshold of cryptocurrency activity. 

This guide will cover the best way to report cryptocurrency taxes accurately and before the deadline.

How Does the IRS Know You Have Crypto?

One of the biggest misconceptions about cryptocurrency is that you are anonymous when you invest. This is simply not true. Even though you may use a privacy coin like Monero or Zcash, the IRS and other regulatory bodies have a few different methods of discovery that they can use to discover your identity when you invest in cryptocurrency.

The most common method that the IRS uses is called Chain-Analysis. Chain-Analysis is when the IRS will follow the trail of digital breadcrumbs that you leave behind. This is done through digital footprints that you leave behind when you trade on exchanges, buy goods or services, donate to a charity, or even mine a cryptocurrency.

Chain-Analysis is easy to understand when you think of it as a trail of digital breadcrumbs. Because cryptocurrency is digital money, it is easy to follow every transaction you make. This also applies to your cryptocurrency holdings and is how the IRS knows how much you own.

What Will the IRS Do If You Have Unreported Crypto Taxes?

The IRS is moving aggressively to collect back taxes from cryptocurrency investors that haven't reported their holdings accurately. The John Doe Summons is just the beginning of the IRS's crackdown on cryptocurrency tax fraud, and there is no doubt that more people will get targeted.

If the IRS does find that you have under-reported a substantial amount of your cryptocurrency holdings, there are several penalties that you will be facing. If the IRS deems that you have under-reported to $10,000 or more, you could be facing a civil penalty. If the IRS determines that you have under-reported by more than $25,000, you could be facing criminal action.

The IRS has also recently announced that they have a series of criminal tax cases in the pipeline. If the IRS determines that you have tax evasion on your hands, you could face a seven-year prison sentence and a $250,000 fine.

How to Report Your Crypto Taxes

It is good to report your crypto taxes even if you earn less than the minimum tax threshold that the IRS has set. The IRS has made an official statement stating that they are not just going after those with large profits. They are going after those with unreported crypto holdings or who tried to hide their digital funds.

Step 1 – Calculate Your Profits from Crypto Investments

The first step to reporting your crypto taxes is to calculate your overall profits from your cryptocurrency investments. This will allow you to know how much money you need to report to the IRS.

Step 2 – Report Your Profits on Your Taxes

Once you have calculated your overall profit, you must report this on your taxes. This can be done in a few different ways. You can use Form 8949 if you use cryptocurrency to make a purchase. You can also use Form 1040 Schedule D if you sell your coins during the year.

Step 3 – File Your Taxes On Time

Once you have completed Steps one and two, you must file your tax return on time. It is recommended that you send in a few forms of estimated taxes before the tax deadline so that you won't get hit with a late-filing penalty by the IRS.

Conclusion

There is no doubt that reporting your cryptocurrency taxes is not easy, but it is imperative. The IRS is cracking down on cryptocurrency fraud, and you must be sure to report your profits accurately.

Tottax is a tax and accounting agency offering personalized business consulting, including tax planning and filing in all 50 states. You can always master your finances and optimize your taxes no matter your situation. We are experienced in helping people through all kinds of financial entanglements, and we’re here to provide you with the assistance you need.  If you need help with your crypto tax returns in Denver, look no further. Schedule a consultation today and let’s talk!