How To Avoid Capital Gain Tax on Cryptocurrency?

How To Avoid Capital Gain Tax on Cryptocurrency?

written by John Murphy | March 22, 2023

The simple answer to the question of how to avoid capital gain tax on cryptocurrency is to know how it is taxed; only then can you devise strategies to avoid taxes legally. Since cryptocurrency is a hot topic and has become a trillion-dollar industry, thus tax authorities are keeping a close eye on it.

Moreover, since cryptocurrency has generated wealth for early investors, although not every event will fall under the tax net, there are chances that your earnings may belong to the taxation net. 

Therefore, crypto tax is a term becoming familiar in crypto trading. Moreover, income from crypto trading categorized as a capital gain. So, in most countries, profits from cryptocurrency buying and selling are charged as per capital gain rates.

However, luckily, there are legal ways to avoid and reduce these taxes, which we will discuss and answer “how to avoid capital gain tax on cryptocurrency” in this article.

How do Cryptocurrency Taxes Work?

Digital assets, including cryptocurrency, NFT, and other blockchain-based assets, treated as capital assets in most countries, including the U.S. Hence any income from the sale of these assets will fall under the capital gain category.

Moreover, capital gains are divided into short-term (assets held less than one year) and long-term (assets held more than one year) capital gains. Likewise, tax rates differ for both classes; generally, short-term capital gains now charged at a higher rate than the short-term.

Let us now focus on legal ways to avoid taxes on capital gains made from crypto trading.

  1. Buy Crypto in an IRA

You can invest in cryptocurrency through an Individual Retirement Account (IRA) in a tax-advantaged manner. For instance, you can use a self-directed IRA to purchase cryptocurrency. Self-directed IRAs allow users to invest in cryptos, real estate and precious metals. Luckily, most IRAs enable users to invest in digital assets, including cryptocurrency and NFTs.

Moreover, since traditional IRAs allow contributors to make tax-deductible contributions, thus you can save your investment from high tax-rate applications. So, you can significantly cut your tax amount by investing in cryptocurrencies through an IRA.

  • Declaring Crypto as Income

You need to know that only some crypto received in your crypto wallet comes from a crypto trade. For instance, there are chances you might receive tokens in your wallet in return for your services of a product sale. Hence, tax working is different for such transactions.

So, you need to report only the fair market value of the cryptos received and mention it as income while writing for tax purposes. The benefit of reporting it as income is that it will be taxed at an ordinary rate lower than capital gain taxes.

The same scenario is valid for crypto miners. Generally, crypto mining considered self-employment, meaning you will save high taxes by reporting such tokens under the self-employment tax category again.

  • Hold Cryptos for long term

Another answer to the question of – how to avoid capital gain tax on cryptocurrency is to hold your cryptos for more than one year before selling them. Since holding cryptocurrency is an investment, you only earn capital gain when you sell it. Therefore, you can avoid taxes by not selling your tokens in any given tax year.

However, it is not viable for traders to keep buying and selling cryptos. Though, to lower your tax bill, make sure to sell only those tokens which bought more than a year ago. The capital gain tax on tokens sold after one year of purchase date is taxed at a lower rate, as these become long-term capital gains.

  • Make a Crypto Donation

Donations to a qualified charity are generally tax-deductible. Although you may have to hold your tokens for one year before donating, it will save you a tax amount.

Since you can deduct the fair market value of the donation from your tax return, thus it becomes a feasible option to reduce the tax amount. Although there are certain limitations on charities, we suggest consulting your tax consultant before opting for this option.

  • Sell Crypto in a Low-Income Year

The lower the taxable income, the lower the tax rate. Thus, you can reduce the tax rate by selling your tokens in a year when your income is low.

Although selling cryptocurrency may result in capital gains, that will not push all your income into the upper tax slab so that it can lower your tax burden.

  • Offset Crypto Gains and Losses

The excellent news about crypto taxation is that you can offset your losses against gains. So, if you use it intelligently, you can have a tax advantage, commonly known as tax-loss harvesting.

However, gains and losses are offset against the same type, like short-term losses are offset against short-term profits, and the same goes for long-term capital gains and losses.

  • Gift Crypto to your Family

Generally, gifts exempted from tax purposes, and the good news is both the giver and receiver can avoid taxes. However, an upper limit of$15,000 per person per year is still an excellent option to lower the tax bill.

Frequently Asked Questions

Do I have to pay taxes on crypto?

Gains from crypto trading are taxable globally, including in the U.S. Generally, income from crypto trading is categorized and taxed as a capital gain.

Which country does not tax cryptocurrency?

The following countries do not tax cryptocurrencies.

  • Germany
  • Singapore
  • Portugal
  • Belarus
  • Switzerland

How much is the capital gain tax on crypto in the U.S.?

Usually, tax rates on crypto gains range between 10% to 37% in the U.S., depending on the federal income bracket.

Parting Thoughts

Cryptocurrency investment may result in significant gains as you sell them at a higher price than the purchase rate. If you are lucky enough to make gains, you must pay government taxes. 

But you can significantly lower your tax bill if you know how to avoid capital gain tax on cryptocurrency. There are numerous ways, like gifting them to your family, selling in a low-income year, offsetting against gains or buying cryptos through an IRA.

All of these methods are legal and support your tax management scenarios. So, applying these methods is acceptable to reduce your tax burden.

However, cryptocurrency taxation is complex as it is evolving. Therefore, we recommend consulting a tax professional to make a strategy compliant with prevailing tax laws.

Please leave feedback in the comments section, as we look forward to hearing back from you.