By Sheridan Maxey
The pandemic caused many individuals to remain at home, and left a large number of individuals without sustainable income due to business closures. However, remarkably, the trading of cryptocurrency remained stable with the well-known cryptocurrency, Bitcoin, reaching $17,000 per one coin in November 2020. As of this writing, one Bitcoin is equivalent to $58,964.53. Early investors of Bitcoin, and new investors since shelter-in-place orders have been in effect, are looking at a hefty return on investment if they were to convert their coins into the United States Dollar (USD). However, investors, veteran and novice alike, should be wary of making Bitcoin and other cryptocurrency trades and conversions. Despite the name “cryptocurrency” the Internal Revenue Service (IRS) and the United States do not consider cryptocurrency to be a form of currency akin to the USD; instead, the “currency” is instead considered property.
Bitcoin and the USD have similarities in that both can be used to purchase items and both can be gifted to others. The major difference between the two that may not be so clearly understood is that the USD is only truly taxed when it is earned. Of course, there also are sales taxes, use taxes, estate and gift taxes, and many others that essentially tax the same dollars that are taxed as income. However, one singular USD is always worth one USD, there is never a tax that is imposed because that one dollar is now worth two dollars tomorrow. One USD is just that, while it does have a value, it has no basis. But what is basis?
A very skeletal crash course of basis is that outside of specific circumstances, the basis of property is the cost of the property. This means that if you were to purchase a coffee table, your basis would be the dollar value of that coffee table. Essentially, basis is determined by how many dollars are spent on an item. When an item is later sold, an amount is realized, and gain or loss is recognized. Gain is determined by the excess of amount realized over the item’s basis, and loss is determined by the amount of the item’s basis in excess over the amount realized. For example, if you bought the coffee table for $10 and later sold it for $15, then you realized $15 and recognized a $5 gain on the sale of the table.
Now back to Bitcoin, does it have a basis? The answer is yes. The basis in one Bitcoin is the same as the basis in anything else; it is what the individual purchased it at. This is where the importance of knowing how the IRS views cryptocurrency comes into play. Income is gained when property is sold at an amount larger than its basis and loss occurs when property is sold for less than its basis. On paper this would seem easy to track, if one Bitcoin equals $58,964.85 today, then if you sold one Bitcoin for $58,965.85 tomorrow, then you would recognize an overall gain of $1. However, the resolution is not so simple.
Bitcoin is what is called a capital asset, which is all property held by an individual, subject to exceptions. Capital assets have differing tax rates depending on how long they are held. If the one Bitcoin is held for less than a year before being sold, then there would be a short term capital gain which is taxed at a higher rate than a long term capital gain, which is what is recognized when a capital asset is held for more than a year. The gains rates are determined by an individual’s filing status and taxable income. In addition to the gains rates, it is common for traders of cryptocurrency to purchase fractional “shares” of their coin of choice. This means that each time a fractional share is purchased, that transaction has its own basis. So selling one Bitcoin for $58,965.85 tomorrow when it is worth $58,964.85 today is not necessarily one sale that resulted in a $1 gain. In actuality, multiple fractional shares with different bases that make up one Bitcoin are being sold for $58,965.85. Essentially, this means that there is almost assuredly a much larger gain being recognized than just $1, and that the single sale is actually comprised multiple transactions.
The average cryptocurrency trader may not realize that they are selling multiple parcels with different values all at once. If the trader has more than one Bitcoin, they can choose which fractional shares they are selling in the transaction; however, if the trader cannot determine which shares they are selling, then the default method is that the oldest shares are sold first. The oldest shares most likely have the lowest basis, meaning that a larger amount of gain will be recognized on a sale. On top of that, there is a taxable event each time Bitcoin is used to purchase something and when the currency is converted into USD. Due to the intricacies in how cryptocurrency transactions are taxed, unwise and uninformed cryptocurrency trading can end up being more troublesome than it is worth when all of the tax consequences occur. A harsh reality may await many of the traders who have already been devastated by the pandemic when they file their taxes and find that their trades during the pandemic aren’t just numbers on a smart phone screen.
 Anjali Sundaram, Yelp Data Shows 60% of Business Closures Due to the Coronavirus Pandemic Are Now Permanent, CNBC (Sept. 16, 2020), https://www.cnbc.com/2020/09/16/yelp-data-shows-60percent-of-business-closures-due-to-the-coronavirus-pandemic-are-now-permanent.html.
 Phillip Inman, Bitcoin Jumps to Three-Year High as Covid Crises Changes Investor Outlook, The Guardian, (Nov. 17, 2020), https://www.theguardian.com/technology/2020/nov/17/bitcoin-jumps-to-three-year-high-as-covid-crisis-changes-investor-outlook.
 See Yahoo Finance, https://finance.yahoo.com/quote/BTC-USD (last visited Apr. 5, 2020) (showing the daily fluctuation of Bitcoin value).
 See Frequently Asked Questions on Virtual Currency Transactions, IRS, https://www.irs.gov/individuals/international-taxpayers/frequently-asked-questions-on-virtual-currency-transactions (answering that cryptocurrency is deemed property).
 See 26 U.S.C. § 1, see also 26 U.S.C. § 61.
 26 U.S.C. § 1012.
 26 U.S.C. § 1001.
 26 U.S.C. § 1221.
 A Guide to the Capital Gains Tax Rate: Short-term vs. Long-term Capital Gains Taxes, Turbo Tax (2020), https://turbotax.intuit.com/tax-tips/investments-and-taxes/guide-to-short-term-vs-long-term-capital-gains-taxes-brokerage-accounts-etc/L7KCu9etn.
 Frequently Asked Questions on Virtual Currency Transactions, supra note 4 (answering that If no election to choose which coins are sold in a transaction is made, then the default method is to sell the earliest acquired coins first).
 See id. (answering that sales and conversions of Bitcoin are taxable events).
Image Source: https://www.forbes.com/sites/cbovaird/2021/04/02/is-bitcoin-building-up-support-near-60000/?sh=62e30db81c5d