Home » Crypto Payroll: Tax Considerations Under IRS Guidelines.

Crypto Payroll: Tax Considerations Under IRS Guidelines.

Crypto Payroll should be approached with a detailed understanding of tax and accounting implications, accurate record-keeping, and the guidance of qualified crypto accountants to navigate its complexities effectively and ensure compliance

by Sharon Yip, CPA, CCE, MBA, MST.
Co-founder of Chainwise Crypto Tax Academy | Featured in Bloomberg Tax, CoinDesk.

Payroll in Cryptocurrencies through the lens of a crypto tax professional.

In recent years, the meteoric rise of cryptocurrency has not only transformed investment landscapes but also begun reshaping traditional payroll systems. As a tax professional specializing in this emerging field, I’ve encountered firsthand the complexities and challenges that arise when compensation is paid in cryptocurrency. 

The scarcity of guidance on handling its taxation is common. This gap in knowledge and resources drove me to specialize in crypto taxation, dedicating my expertise to navigating its murky waters. 

The purpose of this article is to clarify the complexities and considerations necessary for both employers and employees when dealing with crypto compensation in the U.S.

TL;DR:

  • Crypto payroll introduces tax complexities for both employers and employees.
  • Accurate valuation of digital assets and compliance with IRS rules are mandatory.
  • Both parties must maintain detailed records and understand tax implications.
  • Consulting with crypto tax professionals is strongly advised.

Employer Payroll Considerations

Compliance with Tax Rules:

Despite the innovative nature of cryptocurrency, employers must adhere to traditional payroll tax rules when compensating employees. This adherence ensures compliance with regulatory frameworks, particularly concerning the IRS. Even when payment is made in digital currencies like Bitcoin or Ethereum, the fundamental requirements of issuing W-2 forms and calculating taxes based on USD values remain unchanged. This process often requires converting the cryptocurrency into fiat currency in the accounting system to accurately report employee compensation and fulfill tax obligations.

Valuation Challenges:

One of the most significant challenges employers face when implementing crypto payroll is the valuation of cryptocurrency at the time of payment, because the pricing of most cryptocurrencies changes frequently, and some tokens don’t have a market price available. Therefore, making payroll in cryptocurrency is a lot more complicated and challenging than just traditionally making payroll by using fiat currency.

Fortunately, most web3 companies using digital assets in their payroll usually use stablecoins, which are intended to be pegged to a fiat currency. However, stablecoin value can still vary slightly, necessitating precise valuation at the time of each payroll transaction.

Employers will need to determine the fair market value of the crypto they are using for payroll, measured in USD, on the date that it is paid to employees because that is the IRS guidance. Due to the inherent volatility of cryptocurrency values, this can lead to fluctuations in the reported compensation amount, introducing a risk factor for both payroll calculations and tax reporting.

For more detailed information and to ensure compliance with the latest tax regulations, employers and employees can refer to IRS Notice 2014-21 and the Frequently Asked Questions on Virtual Currency Transactions available on the official IRS website. This resource provides crucial insights into how virtual currencies are treated under U.S. tax law.

Operational Adjustments:

Integrating cryptocurrency into existing payroll systems presents various operational hurdles. It’s a lot more complicated because crypto tokens are not considered a currency.

In most jurisdictions, including federal, payroll taxes cannot be made by using cryptocurrency. Employers will need to submit payroll taxes in fiat currency. While stablecoins might offer a more stable option compared to other cryptocurrencies, they still require careful handling to ensure all payroll and tax reporting is compliant with regulatory requirements. This situation often necessitates manual calculations or the adoption of specialized crypto accounting software, as most current payroll providers do not support cryptocurrency.

Crypto Tax Education:

The shift to crypto payroll not only requires logistical adjustments but also places a responsibility on employers to educate their employees about the tax implications of receiving digital assets as compensation. Understanding the nuances of crypto taxes is vital for employees to manage their tax liabilities effectively and can prevent future disputes or confusion.

Employee Payroll Considerations

Income Reporting:

Employees must report income received in cryptocurrency, including stablecoins, which, despite their name, can still experience minor fluctuations in value. The IRS treats these as property, meaning the fair market value of the cryptocurrency at the time it is received must be reported as income. This classification requires employees to report the fair market value of the digital assets at the time it is received. Employees need to get a detailed record from the employer to know the cost basis for each crypto that they receive. Ensuring accurate reporting is crucial for proper tax calculation and compliance.

Record-Keeping:

Maintaining detailed records is critical for employees paid in cryptocurrency. Employees need these records to establish the cost basis for tax reporting when they eventually sell or exchange the cryptocurrency. This meticulous documentation is necessary for calculating potential capital gains or losses. Employees should consider using crypto tax software to help track their crypto transactions and calculate their gains/losses when they dispose of the crypto they received as compensation.

Tax Payments and Withholdings:

Cryptocurrency compensation does not typically involve automatic tax withholdings like traditional paycheck earnings. Consequently, employees may need to make estimated tax payments to cover their tax liabilities. Failing to make these payments can result in underpayment penalties and interest charges. Employees need to understand this aspect of crypto compensation to manage their tax payments effectively and avoid potential legal issues with the IRS.

Proactive Tax Management:

With the complexities surrounding stablecoins and other cryptocurrencies, employees should seek specialized tax guidance from qualified crypto tax advisors. This proactive approach will help them optimize tax outcomes and maintain compliance with tax regulations. It is also crucial for employees to remain informed about the evolving landscape of crypto taxation to manage their tax obligations effectively.

Conclusion

As we have explored throughout this article, implementing crypto payroll presents a series of significant challenges and considerations for both employers and employees. Employers must navigate the complex landscape of tax compliance, accurately value cryptocurrency at the time of payment, adjust operational processes, and take on the responsibility of educating their workforce. Employees, on the other hand, face the task of meticulous record-keeping, accurately reporting their crypto compensation, and managing their tax obligations proactively.

One last thing I want to mention is that employers should provide clear guidance to their employees who receive compensation in crypto to educate their employees about tax implications. But, as stated before, it’s also the individual responsibility to get educated and to stay informed about relevant tax laws.

To navigate the complexities of crypto payroll effectively, both employers and employees should consult with experienced tax professionals who specialize in cryptocurrency. Doing so not only aids in compliance but also optimizes tax liabilities and avoids potential legal issues.

Author

  • Sharon Yip

    Sharon is a CPA with over 20 years of tax experience. She became a crypto investor in 2017. Sharon is one of the top crypto CPAs in the U.S. She has published articles on Bloomberg Tax and CoinTelegraph and was interviewed by BitIRA, CoinDesk etc. She is also a CPE instructor specializing in teaching crypto tax courses.

Sharon Yip

Sharon is a CPA with over 20 years of tax experience. She became a crypto investor in 2017. Sharon is one of the top crypto CPAs in the U.S. She has published articles on Bloomberg Tax and CoinTelegraph and was interviewed by BitIRA, CoinDesk etc. She is also a CPE instructor specializing in teaching crypto tax courses.

Post navigation

Leave a Comment

Leave a Reply

Your email address will not be published. Required fields are marked *