Where is Your Money Going?
March 19 2015
Everything on the planet is governed by the laws of evolution. I am not referring to Darwinism, but a form of evolution in which human ingenuity and self-determination guarantee the forward progress of aspects of modern society. From taming horse-power came the eventual taming of gasoline-power. Today we bear witness to a new evolution, that of the money nestled in your wallet and your bank account.
Virtual currency refers to the digital representation of value that functions as a medium of exchange/a unit of account. The most common form of virtual currency, or cryptocurrency, that you've probably heard of is the BitCoin.
A Bit of Background
Bitcoin was created by a software developer named Satoshi Nakamoto in 2008 as an electronic payment system that was based on a mathematical proof. The currency was created in response to demand for a digital currency independent from a governing central authority and with very low transaction fees. Unlike physical conventional currencies which have been backed by gold or silver, Bitcoins are based on a mathematical formula to produce coins using a software program that does so at a rate that does not devalue each individual unit of account. The general idea is that there will only be a fixed amount (21 million) Bitcoins in circulation at any given time, however, each coin can be divided into smaller parts (up to one hundred millionths of a unit). Finally, once a transaction has been made, since there is no regulating authority, the sending party is unable to recover their spent Bitcoins, unless the receiving party is willing to return them. Together, these basic characteristics have created an anonymous currency system that has fluctuated from low values of $0.005 per Bitcoin in 2009 to $1,242.00 per coin in 2013.
What do I do if I own any?
If you were the proud owner of Bitcoins back in November 2013, then I formally welcome you to the millionaire's club. If you were the proud owner, but forgot where you misplaced your digital wallet, then you have my deepest condolences. If you have made any purchases using Bitcoins, there are a few things you must consider when it comes time to Tax season.
To complicate the issue of reporting taxes regarding Bitcoins, the IRS has chosen to treat virtual currencies as property, not currency. For all intents and purposes, imagine that you are reporting transactions as bartering rather than simple cash-in-hand transactions. This means:
- A tax payer who receives Bitcoins as payment for goods/services, must include the Bitcoin's fair market value.
- Wages paid to employees using Bitcoins are taxable to the employee and must be reported by the employer using standard W-2 reporting.
- Payments made using virtual currencies to independent contractors are taxable and self-employment tax rules apply.
- Gain or loss from the sale/exchange of Bitcoins depends on whether the virtual currency is a capital asset in the hands of the taxpayer.
- When a virtual currency is sold, it is treated as property.
- Bitcoins are not treated as currency, that could generate foreign currency gain/loss for Federal tax purposes.
When reporting any tax information regarding your recent Bitcoin transactions, you must use the fair market value as of the date that of the transaction... not two weeks from said date in the hopes of paying less tax. So if you are in possession of cryptocurrencies and have yet to file, take an aspirin and follow the guidelines above to relieve yourself of the headache.
The Future
The purpose of having a banking system is supported by the lack of real alternatives for depositing excess savings. The inability to earn interest on owned Bitcoins makes the opportunity cost non-existent, making Bitcoins a very safe investment for those interested in an extremely low-risk currency option. With China dominating the Bitcoin market, as a Goldman Sachs study found that roughly 80% of Bitcoin exchanges were conducted in Chinese Yuan, the future of the Bitcoin looks potentially bright as an anonymous method of bypassing governmental capital controls.
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