We’ve recently experienced a 50 – 60% decrease in cryptocurrency prices and woke up to several very concerned taxpayers on Monday morning.
This article’s purpose is not to create fear, but rather to make you prepare for any tax, think about funding your tax payments, and consider how your cryptocurrency activity affects your tax payments. How much tax do you have to pay? When is it due for payment? How are you going to fund the tax payment?
In our experience, those taxpayers who treat their cryptocurrency investment like a business (with strategic thought, and factor in tax planning in their decision-making processes), are the most successful (and less stressed).
For new taxpayers, tax payments for the year ending 31 March 2021 are due on 7 April 2022. Yes, there is nearly a twelve-month delay to pay the first year of tax.
Why the trouble?
If you have reinvested your cryptocurrency profits into new tokens, and prices are now down, you may be in trouble.
Some taxpayers have made a killing in 2021. But rather than take out fiat (or convert to stable coins) to cover their tax, they have reinvested their profits in other cryptocurrency tokens.
Trading one cryptocurrency token for another token is a taxable event.
The profit is calculated as the sale price less the purchase price.
For example,
John purchases 100 ABC tokens for $100k on 1 April 2020. On 31 March 2021, John sold 100 ABC tokens for 17 BTC which (for simplicity) were worth $1m. Therefore, John made a taxable profit of $900k.
The $900k profit triggers a tax liability of $297k (at 33% – 2022 could be as high as $351k due to the 39% tax rate increase).
If John has a student loan, he will have a further compulsory student loan repayment to make of $108k.
This results in a total of $405k tax and student loan to pay due 7 April 2022.
John does not have any cash (fiat) from the sale of his cryptocurrency. The $1m sale price (from ABC) is now reinvested into John’s 17 BTC. He didn’t pull out $297k for the taxes, or $108k for his student loan repayment.
In the current 2022 financial year, John continually sells his BTC for other tokens. These tokens are now down 50 – 60% from their peak.
If John’s portfolio is down 60%, it is worth $400k (down from $1m).
The Worst-Case Scenario
John’s tax bill including student loan is $405k
John’s portfolio is only $400k
John owes his entire portfolio (plus more) in taxes to IRD.
This has happened before
This has happened before in the cryptocurrency market in the 2018 financial year. There was a massive bull run to 31 December 2017 which some taxpayers made great profits. Then rather than cash out to cover tax payments, they kept their funds in cryptocurrency expecting the run to continue. Unfortunately, the market crashed in the following financial year, and they were in a similar situation; their tax to pay was worth more than their entire portfolio.
This doesn’t only happen to cryptocurrency. The below extract is from a situation where employees received and executed stock options. Thie market value of the stock received was taxable income to the employee (based on market value, which was extremely high at the time). Then, the bubble burst, and the employees were left holding stock, at only a fraction of its taxable income value. They still had tax to pay based on the extremely high market values. The full article is here.
What to do
Plan and prepare for tax.
Consider your options (outlined in this article)
Understand how your trading affects profitability and tax payments.
Contact us if you are unsure.
Contact Us
Contact us for a call or meeting to discuss any cryptocurrency tax or accounting questions. Our office is in Cambridge, Waikato, or we can arrange a video conference call.
This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. You should consult your own tax, legal and accounting advisors before engaging in any transaction.