The IRS extended the 2019 tax deadline due to the COVID-19 outbreak to July 15, 2020, but with the deadline fast approaching, you may still need more time to file your taxes. Fortunately, the IRS allows you to file for a six month extension, providing you with more time.
Let's take a look at how to file for an extension, what to do if you can't pay and some specific considerations for cryptocurrency traders and investors.
The IRS lets you file for a six month extension if you need more time to complete your taxes, but you must still pay the tax amount that you owe to avoid interest and penalties.
How to File an Extension
The IRS offers a three month extension to file your taxes, which puts the new due date at October 15, 2020.
You can receive an automatic extension on your individual income tax return by filing Form 4868 by July 15, 2020. Most taxpayers complete the form online, but you can also send in a paper form that's postmarked by the due date. The address that you send the form to depends on your state of residence.
Form 4868 - Source: IRS
On the form, you'll need to fill out your identification information and estimate your total tax liability for the year. You must also indicate if you're "out of the country" and if you didn't receive wages as an employee subject to income tax withholdings (e.g. if you're a 1099 contractor).
Estimating your total tax liability can be a challenge for crypto traders and investors. If you haven't been tracking your transactions, you may want to use a tool like ZenLedger to aggregate your transactions across wallets and exchanges and compute your estimated capital gain or loss for the year.
You Still Owe Your Taxes
The IRS extension only gives you more time to finish the paperwork; it does not give you more time to pay what you owe. Your tax payment is still due on July 15, 2020 even if you don't send in your final tax paperwork until October 15, 2020. That's why you must estimate your tax liability on Form 4868.
There are three types of penalties to keep in mind:
- The IRS will charge you interest on the unpaid balance until you pay the full amount. If you underestimate your tax liability (even accidentally), you will owe interest on the unpaid amount beginning on July 15, 2020.
- The IRS will charge you a late payment penalty if you don't pay at least 90% of what you owe by July 15, 2020. The penalty is typically 0.5% of the amount owed per month up to a maximum of 25%, so it's important to accurately estimate your tax liability when completing Form 4868.
- The IRS will charge you a late filing penalty if you don't file Form 4868 by July 15, 2020. The penalty is typically 5% of the amount per month up to a maximum of 25%. If you cannot complete your taxes on time, it's imperative to file Form 4868 to avoid the highest penalties.
If you don't owe any income tax or are receiving a refund, you won't be subject to penalties on underpayments, but you won't receive your refund until you file your tax return.
What if You Can't Pay?
Crypto trading involves a lot of volatility, which can create sudden unexpected gains or losses. At the same time, it's easy to get caught up in day-to-day trading without realizing the amount of capital gains that you're accruing over time. These gains even accrue on crypto to crypto transactions!
Active traders that make trades on taxable accounts (e.g. outside of tax advantaged retirement accounts) are typically subject to estimated income tax payments and all of the associated rules. By paying in each quarter, you avoid a large tax bill at the end of the year that can be hard to pay.
If you cannot afford to pay your taxes, you should still file your return by the deadline and pay as much as you can to avoid penalties and interest. You can also contact the IRS to discuss payment options at (800) 829-1040. The agency may provide a short-term extension, installment agreement or compromise.
Minimizing Your Tax Bill
There are many ways to minimize your tax bill in the current year to avoid making the same mistakes as last year.
Traders making quarterly estimated tax payments can take advantage of the "Safe Harbor Rule" by paying 100% of their prior year's tax amount in quarterly installments. If you're making more this year, you can defer the rest of the payments until April 15, 2021 without interest or penalties.
Of course, deferring taxes means that you should save up to pay them. Crypto traders that generate taxable gains on crypto to crypto transactions may want to set aside the taxable amount of the proceeds in U.S. dollars to ensure that they have enough capital on hand to pay taxes during tax season.
You can also minimize your capital gains taxes by taking advantage of tax-loss harvesting. By selling losing positions and realizing losses, you can offset capital gains or up to $3,000 in income on your tax return. You can even re-establish the crypto position immediately afterward!
ZenLedger’s Tax Loss Harvesting Worksheet - Source: ZenLedger
ZenLedger provides a free tax loss harvesting tool that makes it easy to identify losing positions in your portfolio that are ripe for the strategy. By harvesting losses throughout the year, you can minimize your capital gains while keeping your crypto positions open and your portfolio in balance.
The Bottom Line
Taxes can be a stressful time, particularly during the COVID-19 crisis. If you need more time, you can file a tax extension with Form 4868 either online or by mail, but you must still pay the tax that you owe on time in order to avoid interest and penalties. If you can't, the IRS has some options.
If you're struggling to calculate how much you owe, you may want to use a tool like ZenLedger to aggregate your transactions and simplify the process. You can use the same tool to help lower your tax bill in the current year using strategies like tax loss harvesting.