New Must-Answer Question on 1040s This Year

While most of your federal income tax return may look very similar to past years, one mandatory question has been updated on the 2022 form. “Virtual currency” has been broadened to “digital assets.” If you’ve engaged in transactions and activity using cryptocurrency and other forms of digital assets, the IRS is making sure you are being compliant in reporting all of your income. Here’s what you need to know.

Reporting Digital Asset Transactions on your Tax Return

All taxpayers completing their Form 1040, 1040-NR, or 1040-SR, must answer the below question regardless of whether they engaged in any transactions involving digital assets.

“At any time during 2022, did you: (a) receive (as a reward, award or payment for property or services); or (b) sell, exchange, gift or otherwise dispose of a digital asset (or a financial interest in a digital asset)?”

What does the IRS mean by digital assets? Common digital assets include (1) convertible virtual currency and cryptocurrency, (2) stablecoins, and (3) non-fungible tokens (NFTs).

Last year’s Form 1040 asked whether at any time during 2021, the taxpayer received, sold, exchanged, or otherwise disposed of any financial interest in any virtual currency. This 2022 Form 1040 update not only broadens the definition of what “virtual currency” encompasses, but also aids in helping clarify  the instructions so taxpayers answer it correctly.

Digital Assets: When to check “Yes”

A taxpayer should check “yes” if they:

• Received digital assets as payment for property or services provided;
• Transferred digital assets for free (without receiving any consideration) as a bona fide gift;
• Received digital assets resulting from a reward or award;
• Received new digital assets resulting from mining, staking and similar activities;
• Received digital assets resulting from a hard fork (a branching of a cryptocurrency’s blockchain that splits a single cryptocurrency into two);
• Disposed of digital assets in exchange for property or services;
• Disposed of a digital asset in exchange or trade for another digital asset;
• Sold a digital asset; or
• Otherwise disposed of any other financial interest in a digital asset.

Digital Assets: When to check “No”

If the taxpayer answers “no” to the above and only owned digital assets throughout the year without engaging in transaction activity, then they may select “no.” Taxpayers can  also check the “No” box if their activities were limited to one or more of the following:

• Holding digital assets in a wallet or account;
• Transferring digital assets from one wallet or account they own or control to another wallet or account they own or control; or
• Purchasing digital assets using U.S. or other real currency, including through electronic platforms such as PayPal and Venmo.

Next Steps if Digital Assets are Part of Your Wallet or Portfolio

Taxpayers who answer “yes” to the question are to report all income related to their digital asset transactions. Your accountant can guide you in completing Forms 8949, Form 709, updating Schedule D, or completing a gift tax return. Employees and independent contractors paid via digital assets are also to report the income as wages (for W-2 employees) or business income (1040 Schedule C).

The terminology and tax treatment of cryptocurrency and the latest and greatest digital asset trends can get complex quickly. If you need tax planning assistance on your whole financial picture, consult with an Alloy Silverstein Accountant and Advisor today.