Is Virtual Currency a Capital Asset for Tax Purposes?

The Internal Revenue Service (IRS) treats virtual currency as property for federal tax purposes, not as currency. This classification means that general tax principles applying to property transactions, like those involving stocks or real estate, also apply to virtual currency. Because virtual currencies are treated as property, they are considered capital assets when held for investment.

This has significant implications, as any time a taxpayer disposes of a virtual currency, they must calculate the resulting gain or loss. This approach ensures that financial gains from the appreciation of these digital assets are subject to taxation.

The IRS Classification of Virtual Currency

A capital asset includes property owned by a taxpayer for investment, such as stocks, bonds, and real estate. When virtual currencies are purchased and held with the expectation of generating a profit from a future increase in value, they fit this definition. For most individuals who buy, sell, or trade cryptocurrencies, these are held as investments and are therefore treated as capital assets, subjecting their disposition to capital gains tax rules.

The IRS has clarified that some Non-Fungible Tokens (NFTs) may be classified as “collectibles” for tax purposes. If an NFT is treated as a collectible, any long-term capital gains from its sale are taxed at a maximum rate of 28%, which is higher than the rates applied to other capital assets.

An exception to this rule exists for virtual currency held by a taxpayer as inventory for sale to customers in a trade or business. For instance, a virtual currency exchange or a mining operation that regularly sells its coins would treat that currency as business inventory. In these cases, gains or losses are considered ordinary business income or loss.

Calculating Gains and Losses on Dispositions

To determine the tax consequences of a disposition, one must calculate the gain or loss, which hinges on the asset’s cost basis. The cost basis is the original value of an asset for tax purposes, which for purchased virtual currency is the price plus acquisition costs like transaction fees. As of 2025, taxpayers must track the cost basis for digital assets separately for each wallet or account.

The capital gain or loss is calculated by subtracting the cost basis from the fair market value of the proceeds received. A positive result is a capital gain, while a negative result is a capital loss. For example, if a cryptocurrency purchased for $1,000 is sold for $1,500, the capital gain is $500.

The holding period determines if a gain or loss is short-term or long-term. A short-term capital gain or loss results from disposing of a virtual currency held for one year or less, with gains taxed at the taxpayer’s ordinary income rates. A long-term capital gain or loss occurs when the asset is held for more than one year, and these gains are taxed at lower rates.

For example, an investor buys 0.5 Bitcoin for $20,000. If they sell it ten months later for $30,000, the $10,000 profit is a short-term capital gain. If they held it for 14 months and sold it for $35,000, the $15,000 profit would be a long-term capital gain, taxed at 0%, 15%, or 20% depending on their income.

Common Taxable Events Involving Virtual Currency

The IRS considers any sale, exchange, or other disposition of virtual currency a taxable event. These actions trigger the requirement to calculate a capital gain or loss. The most direct taxable event is selling a virtual currency for a fiat currency, such as U.S. dollars, where the seller must calculate the gain or loss based on the cash received minus their cost basis.

Another frequent taxable event is exchanging one virtual currency for another. The IRS does not treat this as a like-kind exchange, which would defer taxation. This is a disposition of the first currency, and the taxpayer must calculate the capital gain or loss based on the fair market value of the new token received.

Using virtual currency to purchase goods or services is also a taxable disposition. The transaction is treated as if you first sold the virtual currency for its fair market value in U.S. dollars and then used those dollars to make the purchase. You must recognize a capital gain or loss on the difference between the currency’s value at the time of purchase and your original cost basis.

Transactions Treated as Ordinary Income

Certain methods of acquiring virtual currency result in ordinary income rather than capital gains. In these situations, the fair market value of the virtual currency at the time it is received is taxed at the taxpayer’s regular tax rate.

One of the most common instances is receiving virtual currency as payment for goods or services. For an independent contractor, this income is subject to self-employment taxes. For an employee, it is subject to payroll taxes, just like regular cash wages.

Receiving virtual currency from mining or staking activities also creates ordinary income. The fair market value of coins received from mining or the value of rewards from staking must be reported as income at the time they are earned.

The amount of virtual currency value reported as ordinary income establishes the cost basis for those specific coins. For example, if a person receives staking rewards worth $500, they report $500 of ordinary income, and their cost basis becomes $500. If they later sell those same coins for $700, they will have a $200 capital gain.

Reporting Virtual Currency Transactions to the IRS

Reporting virtual currency transactions begins on Form 1040, U.S. Individual Income Tax Return. It includes a question asking if the taxpayer engaged in any digital asset transactions during the year. All taxpayers must answer this question.

Starting with the 2025 tax year, taxpayers will receive Form 1099-DA from brokers. This form will report the proceeds from sales and exchanges of digital assets. It is designed to provide taxpayers with the information needed to complete their tax returns.

Capital asset transactions are detailed on Form 8949, Sales and Other Dispositions of Capital Assets. For each disposition, the taxpayer must provide a description of the currency, acquisition and sale dates, sale proceeds, and cost basis. The form separates short-term and long-term transactions for correct tax calculation.

The totals from Form 8949 are transferred to Schedule D, Capital Gains and Losses. This schedule summarizes all capital gains and losses. The net gain or loss from Schedule D is then carried to Form 1040 and factored into the taxpayer’s overall taxable income.

Income from activities like mining, staking, or being paid in virtual currency is reported differently as it is ordinary income. This income is reported on Schedule 1 (Form 1040) as “Other income.” If the activities are part of a trade or business, the income and associated expenses would instead be reported on Schedule C, Profit or Loss from Business.