To Crypto or Not To Crypto: The Basics Of Cryptocurrency
If you have had a passing interest in the markets, you may have heard about the soaring price of Bitcoin or Ethereum, two different types of cryptocurrencies. Many people jumped in on the craze not knowing what exactly they were buying and what they should be doing with them now that they had been purchased. If that was you, or if you are curious about this subject matter, here is what you need to know about cryptocurrencies.
What is cryptocurrency?
Cryptocurrencies are digital assets setup on a decentralized distributed ledger technology platform, known as Blockchain, that uses that technology to make sure the transactions are secure and immutable. Each transaction is a block on the blockchain and is tied to the previous and future blocks, making fraud almost impossible. Since this acts as a medium of exchange like currency, cryptocurrencies can be used to buy and sell goods and services.
If those three sentences made no sense whatsoever, here is a bit more simplistic explanation. Cryptocurrency is a digital currency that can be utilized like US Dollars in transacting business. Instead of a government backing the currency, cryptocurrencies are decentralized and use sophisticated technology to keep the currency secure.
Bitcoin and related cryptocurrencies gained popularity as a way to transact business anonymously, in the tech industry, and in third world countries with unstable currencies. From a practical standpoint, if you purchase Bitcoin, you are exchanging dollars for this new currency. However, unless you are buying something from a seller who accepts Bitcoin, you will need to trade it back into dollars to spend it. If you are able to purchase using Bitcoin, there are high transaction fees and the time it takes to process the transaction can take up to an hour. Also, because there is no central government backing, there is no inherent value to the cryptocurrency. Its value is based on the value it’s currently trading at, similar to stock valuations, and something like malware can permanently destroy the currency. There are currently over 7,000 different cryptocurrencies in existence, and growing.
If you currently own cryptocurrency it is important to note that, unlike trading dollars for yen or pesos, the IRS considers cryptocurrency an asset like stocks. If you sell cryptocurrency, any gain from that transaction is subject to capital gains taxes. For those who “struck it rich” with Bitcoin in 2017 and sold some of their currency off, they received the surprise of a high tax bill. The IRS has also issued regulations to the cryptocurrency exchanges to report these tax transactions in a similar fashion that stock exchanges report stock trades for tax purposes. If you did sell cryptocurrencies, make sure to let your accountant know so they can help with tax planning on the capital gains and losses from these transactions.
As cryptocurrencies and blockchain technology becomes more mainstream in its use, it is important to understand what cryptocurrencies are, how they are used and how they are taxed. By educating yourself in this emerging area, you can make the right decisions on how you will utilize these technologies for you or your business.
*cover image courtesy of pixabay