Staking is an easy and popular way of earning passive income on crypto assets. Staking rewards are considered income and taxes are due on them. However, there is no clear guidance from the IRS on how to treat staking income for tax purposes. We’ll look at two common interpretations and how to report staking income on your taxes.
What Are Crypto Staking Rewards?
Staking means locking up your crypto assets to run the blockchain, i.e. to confirm transactions and also to secure it. As compensation, stakers are rewarded with native tokens calculated in percentage yield. Usually, staked tokens are pooled in a staking pool to enhance the chances of being the validator to mine the next block and receive the rewards.
Crypto staking is supported by blockchains using proof-of-stake consensus like Ethereum (in progress), Polygon, Solana, Polkadot, Kusama and more.
LIDO is one of the most popular staking platforms. The yield offered for crypto staking ranges from 3.9% to 17.6% (screenshot as of October 5, 2022 3:39 hours GMT).
Crypto staking offers passive rewards at significantly lesser costs when compared to proof-of-work consensus which requires huge upfront investment in the form of mining equipment.
- Crypto staking allows a user to earn passive income by locking up their assets.
- Staking allows a user to be a part of the network by securing it and confirming transactions.
- Staking is relatively easy and affordable when compared to proof-of-work mining equipment.
Note: staked crypto assets are at a risk of loss if the protocol goes bankrupt or gets hacked
How Are Crypto Staking Rewards Taxed?
Although the IRS has provided guidance on taxation of various crypto transactions, there is no specific guidance on how staking rewards will be taxed. Most tax experts have drawn conclusions on the basis of guidance issued by the IRS for taxation of income from mining, namely taxation on receipt.
Hence a conservative approach would be to disclose all staking rewards as income in your tax return on receipt basis.
Lena staked 1 SOL on January 1, 2021. She claimed rewards of 0.1 SOL on December 31, 2021. The price of 1 SOL on December 31 was $170
In the present case, Lena will disclose Income of $17 ($170 * 0.1 SOL) as Staking rewards in her tax return.
This also leads us to the next question..
Are staking rewards taxable on subsequent sale as well?
Yes, If the prices move between the date of receipt of rewards and its sale date, then the difference will be taxed as income (if there is a gain) or deducted from other profits (if loss).
Lena purchased 1 SOL on January 1, 2021 for $1.8/- and Staked it for 1 year. She claimed rewards of 0.1 SOL on November 30, 2021 (fair market value of 1 SOL on Nov 30 is $150). She sold 1.1 SOL on December 31, 2021 for $170 per SOL.
Let’s compute her taxable income:
As seen in the above example, there is an additional gain of $2 by holding the staked rewards, these gains will be taxed as Capital gains.
The computation might look a bit complex. But worry not, Bitwave automates all these computations and provides accurate reports for tax purposes so that you don’t have to compute it manually :)
Now that we have an idea of how taxes work on staking rewards, let’s now look at how to report them in your tax return.
How To Report Crypto Staking Rewards on Your Tax Return
Reporting staking income on your tax return is a bit tricky. As mentioned above, due to lack of clear guidance from the IRS on how to treat staking income, there are two different interpretations on reporting which will determine how and when Staking rewards will be taxed.
First Interpretation: Similar to Mining rewards
This is the most conservative interpretation whereby we draw from IRS guidelines for mining rewards received by miners which states that mining rewards are taxable on receipt.
Hence in this case, income would be taxable on receipt of staking rewards.
Yet another issue when reporting Income from staking is : Nature of Income?
Crypto staking rewards can be disclosed in Tax returns either as Interest Income, Rental Income or Other Income. Here’s what these mean:
- Interest Income:
Staking rewards (in common terms) are similar to interest received by holding funds in a savings bank account. Since the process works almost the same way.
However, for income to be reported as “Interest” it should be covered within the definition under Internal revenue code (IRC) Reg §1.61-7.
“Interest income includes interest on savings or other bank deposits; interest on coupon bonds; interest on an open account, a promissory note, a mortgage, or a corporate bond or debenture; the interest portion of a condemnation award; usurious interest (unless by State law it is automatically converted to a payment on the principal); interest on legacies; interest on life insurance proceeds held under an agreement to pay interest thereon; and interest on refunds of Federal taxes.”
Staking Income clearly does not fall within the definition of “Interest” and hence this may not be the right way of reporting it.
- Other Income:
Taxpayers can treat staking rewards as Other Income and accordingly disclose it as such on their income tax return. This is the most suitable approach for taxpayers since the above two options are not suitable considering staking is a relatively new concept.
We will be covering taxation of staking rewards in this article assuming the nature of income as “Other Income”.
Second Interpretation: Taxable on sale
This is an aggressive position where it is interpreted that staking income is taxable only on sale and not on receipt. Since, on receipt it is just a creation of new property and no income is realized by the holder unless it is sold.
Thus in this case, income would be taxable only on the ultimate sale of staking rewards.
Note: Please do consult your tax advisor for legal advice in this regard.
Where To Report Crypto Staking on Your Tax Return
Reporting of staking rewards depends on how you classify it. Based on the various interpretations, we have summarized the forms to be filed under each case.
Case 1: Staking Income Taxed on Receipt
Disclosing staking rewards as income on receipt basis is the most conservative option for taxpayers.
Taxpayers will be required to file:
- Schedule 1 Form 1040 (Line 8) disclosing staking rewards as “Other Income”.
- Taxpayers must make sure to check “yes” for the crypto question on Form 1040.
Case 2: Staking Income Taxed on Disposal
This is an aggressive stance where staked income is disclosed on your tax return only on disposal. This is similar to the sale of crypto assets.
Taxpayers will be required to file:
- Form 8949 (Sales and Other Dispositions of Capital Assets) reporting the crypto gains and losses
- Schedule D (Capital Gains and Losses) reporting the summary of details mentioned in Form 8949
- It is advisable to file Form 8275 (Disclosure statement) since this is an aggressive stance.
Staking rewards are an easy way for crypto investors to earn a passive yield on their assets. They may be taxed on receipt as Other Income (covered in case 1).
If these rewards are subsequently sold and there is a difference in price between the sale date and receipt date, the profits may be taxed as Capital Gains (covered in case 2).
Taxes can be complex and that is why Bitwave has automated all these calculations so that you can comply and download your tax reports at ease. Our DeFi accounting solution can be leveraged to report ROI for your DeFi transactions, reconcile transactions and track staking revenue.
Note: This article is for informational purposes only and should not be construed as tax or legal advice. Please consult your tax advisor or other professional for the same.