Crypto tax prep is a booming business in the US as crypto investments have soared to make it a multi-trillion dollar market.
Newcomers in the market that help US residents determine their crypto gains and tax bills have raised hundreds of millions of dollars and achieved billion-dollar valuations. Moreover, conventional tax prep service providers are launching new offerings for this up-and-coming niche.
Experts believe that it is hard to gauge the size of the crypto tax prep market. But, if they were to put a number on it, this niche would be worth $400 million and the worth is growing significantly year over year.
The IRS clamped down on the cryptocurrency market in the summer of 2019, when the tax authority sent thousands of letters to taxpayers who were suspected of not paying their crypto-related taxes.
Michelle O’Connor, vice president of marketing at TaxBit believes that even though taxpayers realized that they have to pay taxes, it was so overwhelming for them that they simply ignored it. Then, they started receiving letters from the IRS.
The IRS issued the first in-depth guidance on how to declare crypto-related income in October 2019. In the same year, the tax authority included a crypto transaction-related question in Schedule A of Form 1040. In the following year, the question became mandatory for all taxpayers in the US.
Dan Hannum, chief operating officer of ZenLedger says that the consumers and enterprises filing their crypto taxes will grow significantly year-on-year moving forward from 2021.
In the future, technology will get complicated and with DeFi and NFTs gaining popularity, the taxpayer will need help managing their tax liabilities. The IRS can easily differentiate between different types of transactions, but for an average taxpayer, accounting might get tricky, and the safest way is to consult a professional or use crypto tax prep software.
Hard to measure
Due to the massive uptick in the crypto investors in the last few years (53 million potential crypto investors), estimating the crypto tax prep market can be difficult.
Shehan Chandrasekera, head of the strategy at CoinTracker says that the IRS has released a report related to the 2019 tax season and the data is not that impressive. As per the report, only 928,000 taxpayers said they performed crypto-related transactions during the 2019 financial year.
But, this is most likely to change. Chandrasekera also believes that according to market insights, half of US taxpayers have something to do with cryptocurrencies. According to Chandrasekera, some taxpayers have taxable transactions that they need to report to the IRS, while some may be HODLers that don’t need to report their digital assets until they sell.
The crypto tax prep companies have been attracting significant investment in the past few years. TaxBit, a cryptocurrency tax, and accounting software raised $300 million in a Series B funding. CoinTracker, a portfolio and tax manager for cryptocurrency raised $100 million and is now valued at $1.3 billion. CoinTracker has also announced a partnership with Coinbase to help Nasdaq-listed crypto exchange users to report their crypto taxes properly.
Koinly, a tax solution for cryptocurrency investors and accountants is also witnessing a growth in its user numbers. The reason behind this growth is the Form 1099 sent out to the users by the exchange. In most cases, these forms are completely inaccurate because investors use multiple exchanges and wallets. And one exchange cannot create an accurate report of an investor’s entire crypto activity.
This inaccurate information led to the IRS sending those letters to the investors two years ago. The exchange-generated tax reports were inaccurate and the data concerning users’ gains and transactions were not balanced. This led to the IRS believing that the taxpayers underreported their taxes.
Crypto tax prep software has become an absolute necessity for taxpayers around the world. The exchanges’ inability to generate accurate tax reports has led to the growth of such software. As technology gets complicated and DeFi and NFTs gain popularity, the taxpayer will need help managing their tax liabilities with a software.
1. How much crypto do you have to report on taxes?
Taxpayers must answer a question on Form 1040 if they had any crypto-related transactions during the financial year. Crypto exchanges are supposed to file Form 1099-K for clients and send a copy to the IRS as well
2. Do you pay taxes if you pay with crypto?
Yes, you have to pay taxes if you pay with crypto. When you pay for something, you are converting your crypto into fiat currency first. So, you are disposing of your crypto tokens, which is a taxable event.
3. Do I need to report crypto on taxes if I didn’t sell?
No, you don’t have to. If you just bought a token and didn’t sell it, you can just answer with a “no” to the question in Form 1040.