Some employers are paying their employees with virtual currency and many more are beginning to explore the possibility. The starting left tackle for the Carolina Panthers, Russell Okung, recently convinced the team to pay a portion of his $13 million salary in bitcoin. The idea of paying a portion of an employee’s salary in bitcoin or other virtual currency is not limited to the wealthy. The Mayor of Miami is exploring the possibility of paying the city’s 3,500 employees partially in bitcoin in an effort to make Miami the center of the crypto universe. The rest of this article will examine the tax consequences of receiving a virtual currency as part of an individual’s wages.
Any virtual currency received in exchange for performing services will be taxed and reported as ordinary income. For example, suppose McGee received 1,800 each paycheck and another200 in bitcoin. For tax purposes McGee would have 2,000 in ordinary income as a result of this paycheck. The fact that McGee is receiving200 worth of bitcoin does not impact how McGee would be taxed. Furthermore, the portion of McGee’s wages paid in bitcoin would be subject to income tax withholding, FICA taxes, Federal unemployment taxes, and should be reported on McGee’s Form W-2.
In the example above, determining the value of McGee’s bitcoin would be easy as he simply receives 200 worth of bitcoin per paycheck. However, suppose instead that the employer decided to pay McGee 0.01 bitcoin per paycheck. In that case, the employer would need to determine the bitcoin's fair market value in US dollars when McGee receives the bitcoin. The value of the 0.01 bitcoin McGee receives each paycheck could fluctuate dramatically throughout the year and is one reason an employer may not want to structure an employee’s pay in this manner.
McGee’s basis in the bitcoin he receives for his services would be the fair market value when he receives the bitcoin from the employer. In other words, McGee’s basis would be the same he pays in ordinary income on the bitcoin. Therefore, McGee would have a200 basis in each bitcoin transaction he receives throughout the year. As a result of bitcoin’s volatility, each 200 bitcoin transaction McGee receives as part of his income throughout the year would fluctuate greatly.
For example, if McGee was paid200 of bitcoin on January 1, 2021 with the price of bitcoin at 29,388, he would receive 0.00680550 bitcoin. When McGee received his200 of bitcoin on January 16, 2021 with the price of bitcoin at 36,200, he would receive 0.00552486 bitcoin. Finally, when McGee received his200 of bitcoin on February 1, 2021 with the price of bitcoin at 33,533, he would receive 0.00596427 bitcoin. In all three of these transactions McGee would owe200 in ordinary income and he would have a $200 basis in the three separate transactions. When it came time to sell or exchange the bitcoin careful analysis would need to be performed to determine the most efficient tax solution.
Individuals who are paid in virtual currency need to keep meticulous records for tax purposes. As discussed in our publication titled The Basics of Basis in Virtual Currency, if a taxpayer is unable to identify specific units of the taxpayer’s virtual currency positions, the taxpayer will be stuck using the FIFO accounting method. This will almost always lead to an inefficient tax solution. In a future article we plan to explore what is required for a taxpayer to identify a specific unit of virtual currency. Unfortunately, many crypto on-ramps have poor recordkeeping features and crypto participants have been faced with the task of recordkeeping. The more organized a virtual currency user is with his/her recordkeeping, the easier it will be for the individual to identify specific units of virtual currency when selling in the future.
An individual being paid in crypto needs to include the fair market value of the crypto in the individual’s ordinary income. The portion of an individual’s income paid in crypto is subject to income tax withholding, FICA taxes, Federal unemployment taxes, and should be reported on the individual’s Form W-2 or 1099. Individual’s receiving payments in crypto should keep meticulous records for tax purposes and so the individual can tax efficiently dispose of his/her crypto position in the future. If you have any questions regarding the topics covered in this article, please contact us.
