Taxation is a troublesome topic for many crypto investors. In some cases, people simply want to conduct their investment operations in accordance with local regulations. In others, inobedience can result in serious issues with law-enforcing authorities. For instance, US citizens avoiding taxes can be fined up to $100,000 and receive jail time of up to 5 years.
While many people know how to invest in cryptocurrency, the knowledge about properly reporting taxable income (capital gains) evades them. It is hugely important to understand the way taxes work in different regions and how you can report capital gains correctly to stay within strict rules and regulations.
One of the biggest issues in the world of crypto is undefined regulatory frameworks that do not provide guidelines for inexperienced users. The absence of an authoritative touch in many areas of the crypto ecosystem can be beneficial and detrimental at the same time.
Here are some issues with the poor regulatory environment in this sector:
The impact of regulatory changes on cryptocurrency taxation is often ignored by individuals who do not pay attention to minor changes to local rules and guidelines. The use of specialized platforms, with the inclusion of decentralized protocols offering tax reporting services, is still remarkably low in the world of crypto, suggesting that many users simply do not know that such services exist.
At the same time, the very existence of platforms that can do all the calculations and tax reporting on your behalf by accessing relevant on-chain data is a great example of how technological advancements are influencing cryptocurrency tax compliance in the world of crypto. Paying taxes in a largely anonymous financial environment is still a choice. However, one must carefully consider the potential consequences of avoiding taxes.
Let’s talk about some of the issues that you, as a law-abiding citizen, may encounter while investing in the DeFi ecosystem.
While exact regulations may differ from one nation to another, a good rule of thumb is to keep in mind that you must pay taxes on realized capital gains. This means that you must pay taxes on any profit made within the period for which you are filing a report.
This rule applies to all types of investments, including staking and farming. Here, you may encounter two particular forms of taxation, depending on where you reside:
In some scenarios, you will even be eligible for tax deductions for crypto investments. For instance, if you lose money on a staking operation, you will be able to deduct the loss. This particular instrument may not be available to some crypto investors depending on where they reside.
The way you report and pay taxes is often determined by the taxable activity. As mentioned above, it can be the end of an investment operation (staking, farming, lending, etc.) or exchanging digital assets for fiat currency. It is important to learn how to stay updated on new tax laws and guidelines related to cryptocurrency to ensure that you know how to act in all scenarios.
One of the problems for many crypto investors is determining when they make a profit and when they lose money since it depends on the principal reference currency that you work with. For example, making a profit in some obscure token that has high volatility is not necessarily a taxable event until you swap it for another asset that has a better-defined value. Reporting crypto gains and losses can be difficult without using specialized tools and services.
Some say that the immutability and reliability of blockchain as data storage are a blessing. Others do not like it precisely because the data is public and can be explored by anyone. Regardless of which side of the fence you are, the fact that all operations are recorded on digital ledgers is a good thing for people who are interested in paying taxes in accordance with the law.
Record-keeping for cryptocurrency is largely unnecessary as long as you have access to your wallet addresses. Many protocols and platforms offer tax reporting features. Users connect their wallets and software scans on-chain data to pull all records directly from the blockchain.
This data is raw. You still must remember which operations are crypto gifts and inheritance tax can be an issue since you must prove that certain operations fall into these categories. However, the fact that data cannot be lost is a massive advantage compared to traditional forms of filing reports where you need to gather checks and other documents. Security and data protection should be a big concern for any DeFi user so choose your tax reporting services carefully.
As the DeFi sector and the larger crypto ecosystem continue expanding and evolving, regulatory frameworks and taxation adapt. The latter is a much slower process, but some laws can be applied retroactively. It is hugely important to keep track of the recent developments and regularly consult with professionals to do everything correctly.
Paying capital gains taxes is a great thing if you made a good investment. We strongly recommend checking out the yield marketplace at Rivo to browse through a collection of expert-picked strategies that fit all types of portfolios and risk styles. Here, you will find an option that will make you money reliably so that you will have to learn about properly filing tax reports!
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