It’s a vendor’s market in lots of components of the nation, which implies larger itemizing costs and elevated competitors. As consumers face these hurdles, some might want to get inventive to fund their down fee. A development I’m presently seeing, particularly amongst millennials and Gen Zers, is the usage of cryptocurrencies to gas down funds. Though this will likely seem to be a good suggestion at first, liquidating crypto brings sure challenges, from complicating the underwriting course of to probably triggering important (and sometimes surprising) tax positive factors. Right here’s a real-life instance as an example my level.
On March 1, 2020, George purchases 5 bitcoins from Coinbase, a preferred crypto trade platform. On that date, Bitcoin is buying and selling at $8,500 per coin. Subsequently, George’s preliminary funding is valued at $42,500 (5 bitcoins × $8,500 per coin). For federal earnings tax functions, George’s foundation equals $8,500 per coin, for a complete tax foundation of $42,500. George is happy about his crypto funding and hopes it’s going to admire in worth over the subsequent a number of years.
In March 2022, George decides to purchase a home (his principal residence) within the Atlanta metro space. After an intensive search, he chooses an exquisite residence in midtown listed at $910,000. George has a superb credit score rating, so he’s not notably frightened about qualifying for a mortgage. Nevertheless, he’s below the mistaken impression {that a} 20% down fee can be required.
George has somewhat over $91,000 in his financial savings account. To place 20% down, he would want an extra $91,000. After questioning the place he’ll get the extra funds, George abruptly remembers his Bitcoin funding. Based on Coinbase, Bitcoin is now buying and selling at $40,000 per coin. If he liquidates 2.275 bitcoins, George can beef up his financial savings by $91,000 (2.275 bitcoins × $40,000 per coin), which is able to give him the 20% down fee.
With out consulting his tax advisor or mortgage officer, George liquidates 2.275 bitcoins to cowl the 20% down fee. In George’s thoughts, cryptocurrency is rather like “actual” foreign money, so there shouldn’t be any points. After liquidating his crypto, George contacts his mortgage officer to start out the preapproval course of.
An surprising tax invoice
Opposite to George’s perception, crypto isn’t handled as foreign money for federal earnings tax functions. Based on Discover 2014-21, the IRS treats Bitcoin and different cryptocurrencies as property for tax functions. Which means George will acknowledge achieve when he liquidates the two.275 bitcoins.
George’s tax foundation within the liquidated bitcoins is $19,338 (2.275 bitcoins × $8,500 per coin). This generates a tax achieve of $71,662 ($91,000 − $19,338). As a result of George held the Bitcoins as funding property for a couple of yr, his achieve can be a long-term capital achieve. Assuming he’s topic to the 20% capital positive factors tax price and the three.8% internet funding earnings tax (NIIT), George’s tax legal responsibility is $17,056 ($71,662 × 23.8%).
Due to his mistaken perception {that a} 20% down fee is required and cryptocurrency is handled as “actual” foreign money, George’s out-of-pocket prices to purchase his residence have elevated by $17,056, the crypto tax legal responsibility. Even worse, George could not have the money to pay this surprising tax invoice as a result of the entire liquidated proceeds plus his financial savings went towards the down fee.
Complication of the underwriting course of
George’s second mistake was liquidating his crypto earlier than speaking to his mortgage officer. As a result of George had a superb credit score rating, a 20% down fee almost definitely wouldn’t have been required. In lots of instances, debtors solely must put 5% all the way down to get a standard mortgage. Though his rate of interest and month-to-month fee would have been larger with a decrease down fee, he might have prevented the surprising crypto tax legal responsibility and preserved a few of his financial savings.
Additionally, not all mortgage lenders permit debtors to make use of crypto to fund a down fee. Those that do would require debtors to liquidate their crypto investments and place the funds right into a checking or financial savings account. Nevertheless, the funds have to be paper-trailed. In different phrases, debtors should show a 30- to 60-day transaction historical past for the crypto account. This complicates the underwriting course of for lenders as a result of cryptocurrency exchanges don’t all the time present month-to-month statements as a financial institution would. When you’ve got a consumer who desires to make use of crypto to fund a down fee, advise them to liquidate their crypto investments early within the homebuying course of, assuming it is sensible from a tax perspective.
Lesson discovered?
So, what can we study from George’s actual property fiasco? Homebuyers trying to make use of crypto to fund a down fee ought to seek the advice of their advisors early within the course of earlier than pulling the plug. They are going to need assistance weighing the advantages of a better down fee towards the tax burden of liquidating crypto. And for those who assume crypto is only a fad, assume once more. As the recognition of crypto will increase, increasingly more people will flip to crypto investments to assist them understand their dream of homeownership.
