Ohio allows businesses to pay taxes in bitcoin, but how many will choose to do so?

This past week, State Treasurer Josh Mandel partnered with Bitpay to make Ohio the first state to accept cryptocurrency for business taxes. Treasurer Mandel told CNBC the move was designed “to plant the flag in Ohio as a national and international leader in blockchain technology,” adding that it increases “options and ease” for taxpayers and opens the door to tech firms and startups deciding to headquarter in the Buckeye state. Mandel added that his office wanted to “roll out the red carpet and welcome all sorts of blockchain companies to Ohio — not just in the cryptocurrency space but in a variety of different use cases.”

For now, Ohio is the only state to allow businesses to pay their taxes in cryptocurrency. But Ohio taking the step may incentivize other states to follow. Other states — Arizona, Georgia, Utah, and New Hampshire — have tried and failed to enact similar policies. The ease of payment for crypto holders failed to outweigh concerns about valuation and cost.

The Ohio system is facilitated by third-party Bitpay, through OhioCyrpto.com. The first three months are free, with a modest 1% transactional fee to follow thereafter. However, these are not the only costs associated with paying taxes with cryptocurrencies. Consider the cost in the secondary tax consequences of paying taxes in bitcoin. The IRS ruled that cryptocurrencies are property in Notice 2014-21. Therefore, paying a $1000 tax bill with $1000 worth of bitcoin technically constitutes a “sale” of that bitcoin. If you bought the bitcoin for less than $1000, then at the end of the year you have to pay taxes on the gain you accrued from the “sale” of paying your taxes with the appreciated bitcoin asset.

The secondary tax consequences of such a “sale” would depend whether the value of the crypto had increased or decreased after the taxpayer purchased it, and also on how long the taxpayer owned the asset. If owned for more than one year, then any appreciation can be treated as a long-term capital gain and will be taxed at a lower 15% rate. If owned for one year or less before the time of “sale,” the appreciation in value will be treated as a short-term capital gain subject to full tax assessment at normal nominal income tax rates for the taxpayer in question.

Furthermore, it will also be possible to realize a tax loss on the payment of taxes with cryptocurrency. If the taxpayer bought bitcoin earlier this year for between $8,000 and $9,000, during the initial crash from 2017 highs, thinking he was buying the dip, then the subsequent crash down to current price that hovers around $4,000 would yield him a significant tax loss. If this taxpayer bought his bitcoin for $8,000 and “sold” it at $4,000 by using it to pay his taxes, he would realize a $4,000 capital loss. He could use up to $3,000 of that loss to write off capital gains for the same year, and the remainder would carry forward to offset capital gains in future tax years.