Tax Law Explained: Cryptocurrencies and Non-Fungible Tokens

Bitcoin, Ethereum, and Dogecoin are cryptocurrencies that have recently gained increasing popularity. NFTs (“non-fungible tokens”) such as Cryptopunks, Meebits, and the Bored Ape Club are also experiencing a real surge in popularity at the end of 2021. One thing connects all of the above: they are virtual/digital assets. Since crypto-assets have established themselves as a form of investment, they must also be increasingly taken into account when filing tax returns. This raises numerous practical questions, such as how to treat supposed income on your tax return. The most important answers from your tax advisor in Düsseldorf
and Oberhausen
.

How are cryptocurrencies taxed as part of personal assets?

A private sale transaction occurs when cryptocurrencies held in personal assets are sold. The sale price minus the costs of sale—which include, for example, trading fees—minus the acquisition costs results in the profit. For tax purposes, profits are only taken into account for calculating income tax if the €600 exemption limit is exceeded.

Capital gains and losses remain tax-free if at least one year elapses between acquisition and sale. Exchanging one cryptocurrency for another is also considered a sale and an acquisition.

The FIFO method (“first in, first out”) stipulates that cryptocurrencies acquired first are also sold first. The FIFO method is legally established for foreign currencies. This rule is applied analogously, as cryptocurrencies can be regarded as foreign currencies. However, this matter has not yet been conclusively determined. The assessment applies separately to each cryptocurrency.

How are NFTs taxed?

There are many technical overlaps between NFTs and cryptocurrencies. It therefore makes sense to treat NFTs the same as cryptocurrencies for tax purposes. According to the tax authorities and some tax courts, NFTs are non-depreciable assets. NFTs held as part of private assets are taxable upon sale within the one-year tax holding period.

The tax holding period is extended to ten years if income from NFTs was generated through NFT staking or the “rental” of virtual land. We will not delve further into the various types of NFTs at this point.

How are losses on cryptocurrencies and NFTs handled?

Gains from other private sales transactions are treated similarly to losses from private sales transactions. They may be offset against such losses within the holding period. In the year of the loss, this could include, for example, a gain from the sale of real estate or from gold trading.

If a loss remains, it is carried back to the previous year. If a carryback is not possible or not desired, the losses must be reported separately and can be offset in subsequent years. A carryback is not possible if, for example, there was no income from private sales transactions in the previous year. It may not be desired if, for example, the income from private sales transactions in the previous year was below the €600 exemption limit. The carryback can also be limited as desired. Important: The €600 exemption limit does not apply if it is only exceeded due to the loss carryback.

Some notes on preparing crypto tax returns

From a practical standpoint, filing crypto tax returns is not entirely straightforward, as some aspects have not yet been sufficiently clarified from a tax law perspective. The specific preparation of the tax return is therefore highly individualized on a case-by-case basis. Here are some tips that can simplify the reporting of crypto income in most cases.

How do you prepare crypto tax reports and a transaction history?

First, a disclaimer: For private investors, filing a crypto tax return is generally not feasible even for a few transactions without a complete “crypto tax report.” There are numerous providers online that can help prepare these tax reports.

The results are recorded in transaction reports, income reports, and fee reports. In practice, tax authorities often only receive individual transactions or taxable sales from trading pools. Individual transactions can only be reviewed by the tax authority with a very high level of staff resources. Furthermore, this does not allow for a review of purchases.

A combination of both methods makes it easier for the tax office to audit and track income. Transaction overviews should be submitted to the tax office as PDF files. Paper submissions should be avoided. Additionally, to facilitate a potential more detailed audit by the tax office, it is advisable to keep the exchange data on hand by exporting it as a CSV or XLSX file.

Pay attention to warnings in crypto tax reports

Data should be consistent. Additionally, no warnings should appear in the crypto tax reports; these can lead to errors when transferring the data to the corresponding section of the tax return, which typically result in disadvantages for the taxpayer. It is recommended to review the data from the crypto tax report before transferring it to Schedule SO.

A checklist for tax returns

A cover letter summarizing the facts is useful when preparing tax returns that include crypto income. It allows the tax office to easily verify reported profits and income. For this purpose, crypto tax reports should be attached to income tax returns for private investors in addition to the cover letter and the SO annex. It is important to remember that the crypto tax report comprises the following three components

• Disposal report: for private sales transactions
• Income report: important for other income
• the fee report: important for income-related expenses

Your Tax Advisor in Düsseldorf and Oberhausen

The topic of cryptocurrencies and NFTs is new to many people. As a result, there is often confusion regarding the correct tax treatment. If you have any questions, please feel free to contact an experienced tax advisor. In Düsseldorf and Oberhausen, we naturally recommend the expertise of our colleagues.