The process starts with buying bitcoins. Bitcoins are then transffered into bitconnect coins which are lent out earning interest paid to the lender. Once interest payments are recieved (in the form of bitconnect coins) they can then be transfered back to bitcoin, and then back to USD. The issue I am having is I seem to be between several blurred lines. This situation doesn't seem to fit a capital gain/loss or an asset situation, as you are only using bitcoin and bitconnect coins to initiate and conclude the transactions and are not holding them. Makes me believe that it should be reported under interest gained. Is this correct?
The guidance on using this form of currency is minimal as this is a developing area, however, the end result of what is out there is that bitcoin is treated as property and general tax principles that apply to property transactions will apply to this virtual currency.
See the attached links from the IRS:
https://www.irs.gov/newsroom/irs-virtual-currency-guidance
https://www.irs.gov/pub/irs-drop/n-14-21.pdf
The key to using bitcoin, just as it is in any other transaction that has tax implications, is to keep clear and accurate records to support any tax position you will be reporting. As you will see in the above guidance, all bitcoin activity must be reported in US dollars.
In general, the acquisition of bitcoin is similar to acquiring stock; so make sure you know what you initially converted, the date and amount in US dollars. Bitcoin is not treated as currency.
Since bitcoin is not treated as currency, every transaction you have is similar to buying and then selling a stock and each transaction will need to be reported. So in your case, you bought bitcoin, sold it to another party. The difference will be reported as either short term or long term gain depending on the time frame of the transaction. Each one of these transactions will be reported on Schedule D and the applicable form 8949.
I have also attached a couple of additional links that discuss this area: