The Internal Revenue Service (IRS) has reminded taxpayers of the need to address the digital asset question on their federal income tax returns. Taxpayers must respond to this question by checking “yes” or “no.”
IRS Digital Asset Question Overview
The digital asset question is prominently displayed at the top of Forms 1040 (Individual Income Tax Return), 1040-SR (U.S. Tax Return for Seniors), and 1040-NR (U.S. Nonresident Alien Income Tax Return). For 2023, the IRS has updated the question’s wording and expanded its presence to other forms, including Forms 1041, 1065, 1120, and 1120-S, addressing corporate, partnership, and estate or trust taxpayers. The question specifically asks whether, at any time during the year, the taxpayer received or disposed of a digital asset, with variations based on the type of taxpayer.
Definition of Digital Assets
According to the IRS, a digital asset is a digital representation of value recorded on a cryptographically secured, distributed ledger or similar technology. Examples include convertible virtual currency, cryptocurrency, stablecoins, and non-fungible tokens (NFTs).
Filing Requirements
All taxpayers filing Forms 1040, 1040-SR, 1040-NR, 1041, 1065, 1120, or 1120-S are required to respond to the digital asset question, regardless of whether they participated in digital asset transactions during 2023.
When to Answer “Yes”
Taxpayers should select “Yes” if they:
- Received digital assets as payment for property or services.
- Obtained digital assets from rewards or awards.
- Acquired new digital assets from mining, staking, or similar activities.
- Gained digital assets through a hard fork (a blockchain split).
- Disposed of digital assets in exchange for property, services, or other digital assets.
- Sold digital assets.
- Otherwise disposed of any financial interest in digital assets.
Reporting Digital Asset Income
Taxpayers who answer “Yes” must report all related income. For instance, those holding digital assets as capital assets and engaging in activities like selling, exchanging, or transferring these assets in 2023 should use Form 8949, Sales and Other Dispositions of Capital Assets, to calculate their capital gains or losses, subsequently reporting this on Schedule D (Form 1040), Capital Gains and Losses.
If digital assets are disposed of as gifts, Form 709, United States Gift (and Generation-Skipping Transfer) Tax Return may be required. Employees receiving digital assets as compensation must report the value as wages. Independent contractors receiving digital asset payments should report this income on Schedule C (Form 1040), Profit or Loss from Business, which is also applicable for sales, exchanges, or transfers of digital assets conducted within a business.
When to Answer “No”
Taxpayers who merely held digital assets without engaging in transactions may check “No.” This also applies if their activities were limited to:
- Holding digital assets in a wallet or account.
- Transferring digital assets between accounts or wallets, they own or control.
- Purchasing digital assets using U.S. or other real currency, including via electronic platforms.
For further information and frequently asked questions, please visit the IRS Digital Assets page on IRS.gov.
Navigating Digital Asset Reporting: Guidance and Support
Understanding and complying with IRS requirements for reporting digital asset income is essential for all taxpayers, regardless of their level of engagement with digital assets. Ensuring accurate responses to the digital asset question and proper reporting of related income can help avoid potential issues with tax compliance. If you have questions or need assistance navigating these requirements, Legacy Private Trust Company is here to help guide you through the complexities of digital asset taxation with clarity and confidence. Reach out to us to learn more about how we can support your financial needs.
If you are a Legacy client and have questions, please do not hesitate to contact your Legacy advisor. If you are not a Legacy client and are interested in learning more about our approach to personalized wealth management, please contact us at 920.967.5020 or connect@lptrust.com.
This newsletter is provided for informational purposes only.
It is not intended as legal, accounting, or financial planning advice.
