Bitcoin is a new, virtual currency created in 2009. Transactions are made without banks, without fees, and without giving your real name. Exchange Bitcoins via mobile apps or computers, similar to sending cash digitally (like PayPal). Some big companies, such as Dell, Expedia, and Zynga even accept Bitcoin as payment.
Virtual currency sounds great except that as far as the IRS is concerned, Bitcoin is not considered cash. It is considered to be property. Similar to buying and selling stock, you need to record the cost you paid for the Bitcoin and the value when you sold it.
Here’s an example. You buy a Bitcoin for $2- this is your cost. Later you use that Bitcoin to pay for $10 worth of Candy Crush items from Zynga. The $10 would be your sales price. According to the IRS, you have a taxable gain of $8 ($10 sale less the $2 cost), which you need to report on your tax return! Pay $10 to Zynga in cash, and there would not be anything to report.
Tax issues surrounding Bitcoin and virtual currency are new and developing. If you work with Bitcoin and have tax questions, please contact me.
It’s almost summer and if you are thinking about buying a vacation home you might be wondering what the tax ramifications are. Some expenses, including mortgage interest and real estate taxes, are generally deductible on Schedule A the same way they are for primary homes. You will need to watch for the dollar limits ($1 million or less, $500,000 or less if married filing separately) on the combined mortgage interest of your main home and vacation home.
You might consider renting the vacation home out during times when you aren’t enjoying it yourself. There’s a neat rule that says if you rent the property for less than 14 days during the year, you do NOT have to report the rental income. But once you go over 14 days you will need to report the rental income and expenses on Schedule E. At that point speak with your CPA to figure out how to best take advantage of that situation.
Code Section 469 defines passive activities as “any activity which involves the conduct of any trade or business, and in which the taxpayer does not materially participate.” This section was enacted in 1986 in an effort to reduce the prevalence of tax shelters.
You hear a lot of talk about tax shelters, especially during election season. Back when Sec. 469 was enacted, tax shelters commonly involved real estate, where businesses owned property and generated losses for the investors. The investors were able to offset- or shelter- their other income with these losses. For example, if someone had $100,000 in wages and $20,000 in real estate tax shelter losses, they would only be taxed on $80,000. Real estate activities were specifically identified by Sec. 469 as passive (unless the taxpayer qualifies as a real estate professional-to be discussed in a different post).
How Passive Activity Income Works
Classifications and Buckets
Income can be classified as passive or non passive (there are other classifications as well, but we will ignore those for this discussion). Losses of a particular type can only offset income of the same type. You can think of different types as being in different buckets, not able to mix with each other. So the losses for passive activities can only offset the income for passive activities. The exception to this grouping is when a passive activity is disposed, then it becomes non passive- meaning that when you sell a passive activity any losses generated can be used to offset other income.
Passive Activity Income Examples
The most basic example is a passive loss from a rental property. Any losses generated CANNOT offset non passive income. It is the opposite of the tax shelter example above.
Say you have two rental properties, one generates a loss and the other generates income. The income and loss from two properties will net against each other. BUT if there is a net loss, that CANNOT be used to offset other non passive income.
Now say you sell the rental property that has been generating losses. In the year of the sale, those losses are “freed up” and can be used to offset other non passive income.
Summary and Conclusion
The basic thing to remember is that passive and non passive income don’t mix. Same nets against same in their buckets, except in the year of a sale of a passive activity. This was a simplified explanation of passive activity rules and an extremely simplified explanation of rental properties. Please if you own real estate speak with a tax expert- every individual situation is different!
IRS Circular 230 Disclosure: Please be advised that the tax advice contained herein is not intended or written by the practitioner to be used and cannot be used by
the taxpayer for the purpose of avoiding any U.S. tax-related penalties that may be imposed on the taxpayer.