Last Updated: February 05, 2021
You can completely avoid US cryptocurrency capital gains taxes by moving to Puerto Rico and satisfying certain requirements. This crypto tax strategy is well-suited for crypto whales (net worth over ~$1 million) but comes with several complexities.
How the IRS taxes crypto
It’s important to understand the fundamentals of how crypto taxes work in the US before discussing this strategy. The IRS treats cryptocurrency as property. The gains are subject to capital gains taxes. Short-term capital gain tax rates range from 10% - 37%, while long-term capital gains are subject to either 0%, 15%, or 20% rates. If you are a high-net-worth individual, you also have to pay an additional 3.8% Net Investment Income tax (NIIT) on top of your capital gain tax rate.
Further, unlike other countries, the US taxes on your worldwide income. This means, if you are a US resident or a citizen, you have to pay US income taxes on your worldwide income even if you work and/or live outside the US. However, Puerto Rico is exempted from this rule because it’s a US territory as opposed to a separate country or a US state. This is ensured by Act 60-2019 (formerly known as Act 22).
To be excluded from the above taxes imposed by the US on cryptocurrency gains, you need to be a “bona fide resident” of Puerto Rico for the entire taxable year and meet some other time-based qualifications.
Bona fide resident of Puerto Rico
To be a bona fide resident of Puerto Rico:
- You need to spend more than 183 days in Puerto Rico,
- You must not have a “tax home” outside of Puerto Rico, AND
- You must not have “closer connections” to any place other than Puerto Rico.
Simply put, you need to completely move out of the US and avoid any close connections with the US. This would involve closing your US bank accounts, selling your house and other personal property, canceling membership in local organizations, etc. To make Puerto Rico your bona fide residence, you need to buy property there.
Being just a bona fide resident in Puerto Rico is not sufficient to unlock crypto tax savings either. Contrary to the popular belief, simply moving to Puerto Rico and cashing out your crypto there will not yield any tax benefits. If you move to Puerto Rico with appreciated crypto assets, those pre-move gains are still subject to US taxes. Only the gains related to crypto purchased as a Puerto Rico resident are eligible for the 0% tax rate until January 1, 2036.
Say you purchased 100 bitcoin (BTC) in 2013 for $1,000 when you were living in Texas. By the end of 2020, your position has appreciated to $3 million (100 * $30,000 per coin). If you move to Puerto Rico in January 2021 and cash out your entire position, you would still be required to pay tax on $2,999,000 ($3,000,000 - $1,000) of capital gains. This is because the appreciation occurred before you moved to Puerto Rico.
There are two options to mitigate the huge tax bill:
- Sell your crypto and quickly buy back those positions while being a bona fide Puerto Rico resident. Any appreciation that occurs after this transaction is tax-free in Puerto Rico as a long as you cash out before January 1, 2036. However, note that when you sell to establish your ownership in crypto as a Puerto Rican resident, you’d have to pay a hefty capital gains tax on any pre-move gains. But, if your pre-move gains are not that much, this is an option to consider.
- If you don’t like option 1, you can be a Puerto Rican resident and continue to hold on to your position. When you sell this position after 10 years (and before January 1, 2036) of becoming a resident, your pre-move gains will only be subject to a 5% rate. This is still better than the 20% maximum long-term capital gains tax rate you would have paid to the IRS.
Moving to Puerto Rico to cash out on crypto gains is more complicated than it may initially seem. In addition to these tax-related complexities, you also have to address other factors before making a move, including cutting all your personal and business ties with the states. That’s on top of actually moving to an island territory with a new language and cultural barriers, high administrative & professional costs, and living in a potentially unstable economic and political environment.
If you have any questions or comments about crypto taxes let us know on Twitter @CoinTracker.
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Disclaimer: This post is informational only and is not intended as tax advice. For tax advice, please consult a tax professional.