Tax Day is coming. In the United States, April 18th is the official due date for federal individual income tax returns. Sadly, it is a day that comes with quite a bit of confusion for most everyone. But it’s especially trying for people who are reporting gains from NFTs.
But fret not. Lawyers have been readying themselves to assist in the wide variety of 2022 crypto tax needs. As a result, there’s a wealth of information on how to report NFT assets, gains, and losses.
That doesn’t mean it will be the easiest thing you’ve ever done or that you shouldn’t take it seriously. After all, missteps can be costly. But there are answers. So, before you go claiming massive losses because you sold your cartoon PFP far below market value, here are the key things you need to know about taxes and NFTs.
1. How are NFTs taxed?
It’s important to understand how the IRS sees NFTs in 2022. Unfortunately, the U.S. tax code doesn’t formally address how NFTs should be taxed. But there are some guiding principles that have allowed experts to more or less suss out how things work.
To begin with, there’s a strong argument to be made that NFTs shouldn’t be claimed as “collectibles” according to U.S. tax code. But NFTs are collectibles, right? So, why aren’t they taxed as such?
Because collectibles under IRC Section 408(m)(2) include:
- Any work of art,
- Any rug or antique,
- Any metal or gem (with limited exceptions, below),
- Any stamp or coin (with limited exceptions, below)
- Any alcoholic beverage, or
- Any other tangible personal property that the IRS determines is a “collectible” under IRC Section 408(m).
The use of “other” in the last item on the list makes it clear that collectibles must be tangible personal property. So while NFTs may be art, they definitely aren’t tangible. The jury is still out on this, but it seems pretty clear that NFTs aren’t taxed as collectibles.
For the most part, experts note that NFTs should be treated similarly to fungible cryptocurrencies like Ether and Bitcoin. If we take another step down the ladder, crypto is the same as stocks. That is to say, it’s like property.
In short, according to the IRS, NFTs are also taxed as property. What does that mean? Well, that they’re subject to capital gains tax.
2. What are capital gains taxes on NFTs?
A capital gain tax is a tax placed on profits earned from the sale of an asset that has increased in value over the holding period. That…is a bit of a mouthful. An easier way to put this might be to say: If you mint an NFT at 0.08 ETH and then sell it for 2.5 ETH a few months later, that creates a taxable capital gain.
This applies to losses as well. So if you purchased an NFT for 2.5 ETH and sold it for a loss of 1.6 ETH, that’s a capital loss.
3. When do capital gains taxes come into play?
Capital gains and losses don’t just happen when you exchange crypto for fiat currency. As the IRS outlined in Notice 2014-21, the value of any given cryptocurrency can create a capital gain or loss.
Whether you are selling an NFT, swapping one coin for another (like ETH → BTC), or cashing out crypto for USD, most of your transactions are likely to be considered taxable events. And these gains can accrue a serious markup when it comes time to settle up with the IRS.
But here’s the thing: In the eyes of the IRS, the length of time you’ve held onto an NFT makes a big difference in how it is taxed.
4. The difference between short & long-term capital gains
Say you hold an NFT for less than a year, and then you sell it for more than you paid. This is called a short-term capital gain. These are generally taxed at the same rate as your regular income. According to the 2022 tax brackets established by the IRS, that will be somewhere between 10% to 37%.
Long-term capital gains, on the other hand, are taxed less. Considering NFTs have been widely popular for just over a year and a half, this one’s a bit tricky. If you did end up holding an NFT for more than a year, that’s a long-term capital gain and is taxed at 0%, 15%, or 20%, depending on the value. Consult Form 8949 (specifically “Sales and Other Dispositions of Capital Assets”) for more on this.
5. How to calculate your NFT taxes
To the IRS, the circumstances of your NFT purchase all matter. As attorney Jacob Martin explains in his NFT Tax Guide, you’ll need to consider things such as the length of time you held your crypto before buying an NFT, what the price of your preferred coin was when you bought in vs. when you purchased the NFT with it, how long you held the NFT, the price difference when you bought the NFT vs. when you sold it, how long you held the crypto post-sale, and so on (hopefully, you get the idea).
Also, be sure to check whether you purchased an NFT with USD instead of crypto. This is a non-taxable event.
But! Selling and NFT is always a taxable event. NFTs are considered sold anytime they are traded for USD, other tokens, or used to purchase something else. And yes, this applies to pawning NFTs, fractionalizing NFTs, and even swapping an NFT for another NFT.
6. How do NFT taxes work for artists?
What we’ve talked about in these first few sections mostly applies to NFT collectors. If you are buying and selling NFTs, the above info could help you understand what sort of information you need to have on hand for filing taxes.
For NFT creators, it’s a bit different.
If you’re trading NFTs, which most artists do in addition to creating and selling, then you’ll need the above information as well. But there is some extra information when it comes to gains you’ve made through the sale of your own art. Fortunately, it’s all very simple from here.
Creating an NFT is not a taxable event, but as noted, selling that NFT is. The general rule to follow as an NFT artist/creator is: when you sell an NFT, you will have to pay taxes on the profits. Profits for NFT creators are not considered gains. It’s income. And this income will be taxed at your regular income tax rate. For self-employed individuals, it’s 15.3%. Even if you were paid in crypto peer-to-peer and not via a marketplace transaction, this is considered income (just as selling a print of one of your works) and is taxed as such.
It’s important to note that self-employment tax is different than your regular tax rate of 10% to 37%. You’ll need to determine how much of your net earnings from the year are subject to self-employment tax. For a bit more on this topic, NerdWallet has a great explainer to help any self-employed individual understand taxes.
Remember: Any NFTs that you bought or sold, but didn’t create, will be subject to the capital gains tax explained above.
Are you ready for Tax Day?
There, not so scary…right? If you’re still a bit confused, consider doing a bit more research into NFT taxes on your own. Martin’s aforementioned NFT Tax Guide is a great place to start — although you will need to spend a bit of ETH minting an NFT to gain access to the full guide.
In all honestly, the best way to do your taxes in 2022 may be to consult a tax professional. Companies like ZenLedger and Taxbit offer great services to help those within the crypto, NFT, and DeFi spaces with their taxes. And remember, nft now is not offering you tax advice.