8 Ways to Avoid Taxes on Your Cryptocurrency Transactions

How to Legally Avoid Taxable Gains on Cryptocurrency

Cryptocurrency is one of the hottest topics in finance right now. After a dramatic past few months of government crackdowns, network drawdowns, and panic, data shows that many market participants have been cashing out.

When selling crypto, or any type of financial asset, capital gains are usually a top concern for investors. People usually want to pay the lowest amount of taxes as possible, which thus allows them to keep more of their profits.

What are Cryptocurrency Taxes?

The IRS treats cryptocurrency gains as a capital asset, which means crypto taxes are no different than the taxes you pay on other realized gains from the sale or exchange of securities.

When you purchase a capital asset — be it a stock, bond, house, Dogecoin, Bitcoin, or other investment — you establish a basis equal to your cost to acquire it. When you decide to sell it, you compare your sales proceeds to the basis to determine whether you have a capital loss or a capital gain. If your proceeds exceed your basis, you have a capital gain. If not, you have a capital loss.

One thing to take into consideration when filing taxes for crypto assets is the time period for which you held it. In the tax code, there are two categories: “short-term” and “long-term”, and they play a major role in the amount of taxes you are required to pay.

1. Short-Term: If you buy and sell a token within a 365 day period, your transactions will be recognized as a short term capital gain or loss. The distinction with this time frame is it requires you to pay the same tax rates you would on ordinary income, such as salaries, commissions, and other earned income. Below is a chart showing the 7 tax brackets for ordinary income, which ranges from 10% to 37% in 2021.

2. Long-Term: If you’re a long term investor, and decided to sell your crypto assets after an entire year of holding, you’re often subjected to a lower tax rate. Once you’ve calculated the capital gain or loss (the difference between sales price, and basis), you can determine the amount you’ll pay based on your income. Listed below are the three tax rates for long-term capital gains (0%, 15%, and 20%)

How to Lower Your Crypto Taxes

1. Reducing Your Taxable Income

One of the most common tried-and-true tax minimization strategies is decreasing your taxable income. To do this, one must scour your countries tax code for tax deductions and credits that will lower your taxable income.

A few examples are using the funds to pay for expensive medical procedures, contributing to a traditional IRA or 401(k) plan, putting your funds into a health savings account, or even donating property/cash to a charity of your choice. There are dozens of hidden tax breaks that could be useful to you, so asking a tax professional could also be useful.

2. Selling In a Low-Income Year

Another important timing element to pay attention to is the option of potentially selling your crypto assets in a low-income year for a lower tax rate.

Selling in a low-income year can help with taxes on both short-term and long-term gains. If you have short-term gains, which are taxed as ordinary income, you won’t have as much other income added on that pushes you into a higher tax bracket.

For example, if you sell short-term assets when you retire and are no longer collecting wages, your tax bracket could be based entirely on the income from your short-term gains. If you have long-term capital gains, a lower overall income for the year can mean a lower tax rate on those gains, too. That’s because the long-term capital gains rate that applies to you — either 0%, 15% or 20% — is based on your taxable income. So, if you have less taxable income, you’re more likely to have a lower longer-term capital gains tax rate.

3. Offset Capital Gains with Capital Losses

Many times when investors end up with a loss in crypto, they don’t feel the need to claim the loss when filing their taxes.

It’s very important that you do so, as it’s legally required by the IRS (as crypto is treated as property), and you can also potentially offset capital gains.

When filing taxes, you have a few options if you have a loss. You can either use your crypto losses to offset other capital gains, or carry forward the losses to offset capital gains in other years.

Each person can deduct a maximum of $3,000 of losses from your income in a single year, but if you have more losses than that, you can still carry forward the remaining to use in future years.

4. Gift the Assets to a Friend or Family Member

According to the IRS, each person can give up to $15,000 to someone in a year and generally not have to deal with the IRS about it.

If you give more than $15,000 in cash or assets (for example, stocks, land, a new car) in a year to any one person, you need to file a gift tax return. That doesn’t mean you have to pay a gift tax.

While the basis in the cryptocurrency transfers to the new owner, the recipient might earn a low enough income where they won’t pay taxes on the appreciated property when sold. Or, at the very least, less in taxes than you might have to pay were you to sell the cryptocurrency yourself.

5. Donate Your Cryptocurrency to Charity

This method is similar to gifting crypto to a friend or family member, but instead involves a charity. This removes the capital gains tax, and can sometimes result in a significant tax deduction on your tax return.

You’ve often seen the headlines of a multi billionaire donating huge sums of money to some charity. Many successful elites engage in charitable donations to boost their reputation, and lower their taxes.

The amount you can claim for a deduction against your taxable income is the appreciated fair market value at the time of the donation. Let’s say you own $100,000 worth of Bitcoin, and choose to donate it all to a charity you support. You can then write that off as a charitable deduction.

6. Move to a State with No Income Tax

If you are considering moving to another state, you might want to consider states that do not have state income tax. This includes: Alaska, Florida, Nevada, South Dakota, Texas, Washington and Wyoming

Dozens of investors have already established residency in Puerto Rico to take advantage of its beneficial tax system. This state is known as the tax haven reserve for some of the largest whales in Crypto.

Americans moving to Puerto Rico have a 0% capital gains tax, which means you will get to keep ALL of your profits from trading.

7. Offshore Life Insurance Policy

For the most part, offshore life insurance is similar to the life insurance that you have in the US. You pay into the policy, and upon your death, your beneficiaries will receive a payout.

However, unlike domestic life insurance, offshore life insurance can also serve as a useful method of diversifying and protecting your assets.

Provided you follow certain rules, you can set up your offshore life insurance to be a tax shelter. This makes it a more favorable alternative to other offshore investments, such as mutual funds, where events outside of your control can increase your tax liability.

The Offshore Private Placement Life Insurance can be funded with any amount of money and there are no contributions limits or distribution requirements.

The tax treatment of a private placement policy is similar in nature to a traditional IRA where tax is deferred until either disbursement or the policy is closed out.

A nice benefit of a private placement policy is if the policy is held until the person’s death, the cryptocurrency is passed to the heirs tax free.

The heirs receive the coins at the market price on the date of passing and pay zero tax on the appreciation while they were held in the life insurance policy.

8. Accurately Filing for Crypto Taxes

The above outlined several easy-to-implement strategies for minimizing how much taxes you may pay on your cryptocurrencies.

That being said, it is highly recommended that active traders of large amounts also verify their filings with a Chartered Public Accountant (CPA), preferably one with knowledge of Crypto.

While minimizing what you may have to pay, doing so at the risk of legal action is never worth any savings you might incur.

Staying safe and above board is the best long-term strategy for enjoying your hard-won profits and limiting stress.

This article mainly covers taxes in the USA, although their tax code is very similar to many other major economies. If you’re from Belarus, Germany, Hong Kong, Malaysia, Malta, Portugal, Singapore, Cayman Islands, or Switzerland, you have an advantage as these countries welcome crypto investors with open arms and do not levy taxes on bitcoin income, storage, and transactions.

Author bio

Jacob King is a graduate in Business Finance, and has been following the world of Crypto since 2012. Having a keen eye for detail, Jacob enjoys writing about crypto, providing Chain Data, Charts, Market Trends, educational content, market analysis. Outside of crypto, Jacob enjoys running, reading, and hiking.