Protect Bitcoin and Other Cryptocurrency Gains with Opportunity Funds
- Posted: April 26, 2019
- Posted by: Travis Lynk
- Last Reviewed: April 26, 2019
If you invested in Bitcoin in 2012, today you would have $850,000 for every $1,000 you invested, a gain ofmore than80,000%.
You could pay several hundred thousand dollars in capital gains tax on the increase—or you could invest itin a Qualified Opportunity Fund and defer taxes until December 31, 2026, reducing them by up to 15% in the process. Better still, you could pay no capital gains tax on a Qualified Opportunity Fund investment held for 10 years or more.
Tax Uncertainties with Cryptocurrency
Cryptocurrency—or “crypto”—is an unusual investment vehicle. Unlike stocks or bonds, crypto can actually be used to purchase goods and services. What many crypto investors don’t realize is that each time they use the currency for a purchase, it triggers a capital gains tax event.
In addition, the IRS classifies cryptocurrency as property.Some crypto investors believe that as such, it is eligible for tax advantages such as the 1031 exchange, which allows taxpayers to swap one investment property for another.
The 2017 Tax Cuts and Jobs Act, however, expressly limited the 1031 exchange to real estate transactions only. It would seem, then, that options for protecting cryptocurrency gains are shrinking. But the very same legislation that eliminated the 1031 exchange loophole for crypto also created a vehicle for protecting gains from the sale of cryptocurrency investments.
Opportunity Funds and Cryptocurrency Gains
The Opportunity Zone program allows taxpayers to invest untaxed capital gains in a Qualified Opportunity Fund within 180 days of the sale of the asset and defer any capital gains tax payments on those gains until December 31, 2026, or whenever the Opportunity Fund investments are disposed of, whichever comes first.
In addition, investments held in a Qualified Opportunity Fund for at least five years are eligible for a 10% reduction in capital gains tax; those held for at least seven years see an additional 5% reduction, for a total of 15%.
Taxpayers can avoid paying any capital gains taxes on Qualified Opportunity Fund investments held for at least 10 years. If an investor rolls Bitcoin gains into a Qualified Opportunity Fund, he or she can protect them and even earn additional tax-free capital gains for a decade.
Understanding Opportunity Funds
The Opportunity Zone program was designed to stimulate private investment in economically distressed communities. State and territorial governors nominated census tracts within their jurisdiction that had a higher than average poverty rate or met other criteria indicating economic distress. There are more than 8,700 Opportunity Zones approved by the U.S. Department of the Treasury and spread across all 50 states, Washington, D.C., and five U.S. territories.
Taxpayers who wish to invest in an Opportunity Zone property to take advantage of tax benefits must do so through a Qualified Opportunity Fund. There are strict IRS guidelines about the type of investments a Qualified Opportunity Fund can make to qualify for tax incentives. A Qualified Opportunity Fund can take a partnership interest in a business operating primarily within an Opportunity Zone, purchase stock in an Opportunity Zone business, or build or improve existing real property within an Opportunity Zone.
A Qualified Opportunity Fund must invest at least 90% of its assets in Opportunity Zone property, and any real estate development must be completed within 30 months of purchase. Additionally, if an existing property is purchased, the cost of improvements to that property must equal or exceed the purchase price.
Investing Crypto Gains in an Opportunity Fund
Unlike other tax advantaged investment programs, the Opportunity Zone program is relatively uncomplicated. Qualified Opportunity Funds self-certify for investing in Opportunity Zone property.
Taxpayers must invest capital gains directly into a Qualified Opportunity Fund within 180 days of the sale of the asset and file an IRS Form 8949 indicating capital gains were invested in a Qualified Opportunity Fund.
No capital gains tax payment is due on those gains until the end of the 2026 tax year—meaning as late as April 2027—or the year in which those investments are sold, whichever is earlier.
Depending on the length of time a Qualified Opportunity Fund investment is held, capital gains taxes may be reduced or eliminated entirely.
No intermediary is required to invest in Qualified Opportunity Funds, and taxpayers simply self-report on their tax return that they’ve invested realized capital gains into a Qualified Opportunity Fund.