Resources/guides/How to calculate your crypto tax in the US

How to calculate your crypto tax in the US

Cryptocurrencies are taxed as property in the United States, not as a currency. This means that the same tax rules which apply to property transactions such as selling and barter trades also apply to cryptocurrencies such as Bitcoin and Ethereum. Transactions which incur capital gains tax must be reported on Form 8949. This includes not just transactions where you convert cryptocurrency back to USD, but also trading once cryptocurrency directly for another, and also when you pay for goods and services in crypto.

Simple Example:

Date Trade Currency Price Quantity Balance Cost Basis Proceeds Gain (Loss)
1st Jan Buy BTC 3,000 1 1 3,000 -
6th August Sell BTC 4,500 1 0 0 4,500 1,500

John purchases 0.3 units of Bitcoin for $3,000. There is no CGT event associated with this transaction. However, 2 months later he decided to exchange 0.3 units of Bitcoin for $4,500. The capital gain in this transaction can be calculated with the cost basis of $3,000 (Purchase price of 0.3 units of Bitcoin) and the capital proceeds of $4,500 (Exchange value of 0.3 units of Bitcoin at the time of exchange). Therefore the capital gains are $1,500 (4500 - 1500)

Inventory Methods

What happens if you purchased cryptocurrency over multiple days, and sold only a portion of your cryptocurrency. How do you decide what cryptocurrency you sold and the relevant cost basis? You could apply a First In First Out (FIFO) inventory method, where the first BTC you purchased is the first BTC you sold. There are a number of different inventory methods such as Last In First Out (LIFO) and Highest In First Out (HIFO), however in the US the most widely used method is FIFO.

First In First Out (FIFO)

Date Trade Currency Price Quantity Balance Cost Basis Proceeds Gain (Loss)
1st Jan Buy BTC 3,000 1 1 3,000 - -
3rd Feb Buy BTC 6,000 1 2 6,000 - -
4th Jun Buy BTC 2,000 1 3 2,000 -
6th August Sell BTC 4,500 1 2 3,000 4,500 1,500

In the above example we sell our first purchase of BTC on the 1st Jan with a cost basis of $3,000, leading to a gain of $1,500.

Last in First Out (LIFO)

Date Trade Currency Price Quantity Balance Cost Basis Proceeds Gain (Loss)
1st Jan Buy BTC 3,000 1 1 3,000 - -
3rd Feb Buy BTC 6,000 1 2 6,000 - -
4th Jun Buy BTC 2,000 1 3 2,000 -
6th August Sell BTC 4,500 1 2 2,000 4,500 2,500

In the above example we sell our last purchase of BTC on the 4th Jun with a cost basis of $2,000, leading to a gain of $2,500.

Highest In First Out (HIFO)

Date Trade Currency Price Quantity Balance Cost Basis Proceeds Gain (Loss)
1st Jan Buy BTC 3,000 1 1 3,000 - -
3rd Feb Buy BTC 6,000 1 2 6,000 - -
4th Jun Buy BTC 2,000 1 3 2,000 -
6th August Sell BTC 4,500 1 2 6,000 4,500 (1,500)

In the above example we sell our highest priced purchase of BTC on the 3rd Feb with a cost basis of $6,000, leading to a loss of $1,500.

Specific Identification as an Inventory Method:

The IRS recently suggested that specific identification might be used as a valid inventory method. They state to use this method you must keep records of:

  1. The date and time each unit was acquired.
  2. Your basis and the fair market value of each unit at the time it was acquired.
  3. The data and time each unit was sold, exchanged, or otherwise disposed of.
  4. The fair market value of each unit when sold, exchanged, or disposed of, and the amount of money or the value of property received for each unit.

You can read the full statement by going here and clicking on question 39.

By using specific identification you could potentially select the LIFO or HIFO method. The LIFO method could be used to maximise any long term capital gains discounts. The HIFO method would be useful for minimising your immediate tax liability, since you will be “maximising losses”. CryptoTaxCalculator has detailed record keeping that matches the above requirements, however these methods are still “controversial” amongst accountants and you should always seek individual tax advice before using these methods.

Receiving Cryptocurrency and Income Tax

Any cryptocurrency that has not been explicitly purchased may be regarded as income and taxed accordingly. There are different ways in which cryptocurrency can be received, and this affects the way in which they are taxed.

Airdrops:

Airdrops occur when cryptocurrency projects deliver a small quantity of their coin to different individuals by depositing it into their cryptocurrency wallet. This is often employed as a marketing strategy to raise awareness about relatively new coins. Any income earned from Airdrops will not constitute a Capital Gains event. Rather, additional tokens received from these processes are considered by the IRS to be income. They are taxed according to your income bracket.

Example: Mary has a cryptocurrency wallet and is airdropped 1000 units of Tron. The value of 1000 units of Tron at the time of the airdrop is $20. The $20 worth of Tron will be considered income for tax purposes. In the future, if she exchanges the coins, the CGT she pays will be calculated with the cost base being $20.

Staking rewards:

Staking is a process whereby individuals can ‘lock-up’ their cryptocurrency to support the operation and security of the blockchain network. When decisions are made regarding the blockchain, the group in consensus (i.e. The group in majority decision) are rewarded. This concept can be compared to earning interest on a bank deposit.

Example:

Steve holds 100 ETH in a pool for the purpose of staking. His pool reaches consensus and he receives an additional 0.001 ETH as a reward. The additional 0.001 ETH are worth $5 at the time he received them. The $5 worth of coins received is considered income for tax purposes. In the future, if Steve exchanges the coins, the CGT he pays will be calculated with the cost base being $5.

Hard Forks:

The IRS states that hard forks are considered income if you receive an additional cryptocurrency asset. The income is calculated based on the fair market value at the time of receipt, so long as you have control over the asset. This is particularly important for crypto investors, since you might receive thousands of dollars in Airdrops in certain circumstances, that could be considered income and later go to zero. This could leave you with a big tax bill if you are not careful. You can read more here (question 22, 23).

Example:

Satoshi holds 1,000 BTC in his Bitcoin wallet. A person acting as an imposter of Satoshi creates a hard fork of the Bitcoin protocol, generating a second cryptocurrency called 'ABC'. At the time of receipt Satoshi has full access to the new protocols wallet, containing 1,000 ABC, with a fair market value of $500 total. Since Satoshi has full dominion over his ABC cryptocurrency, he is freely able to dump them on the market and claim the $500 reward. As such, the IRS would regards the receipt of the ABC cryptocurrency at the time of the hard fork as a taxable income of $500, regardless of whether or not the cryptocurrency was later disposed of (for either a profit or a loss).

Preparing forms:

The following forms are likely to be useful when evaluating and reporting your taxes for crypto transactions and events.

Form 8949: If you have any transactions with capital gain or loss, you can report these in this form. You can fill this out using transaction reports from different exchanges. Form 8948

Form 709: If cryptocurrency sent as a gift exceeds $15,000 in amount, the sender will need to fill out this form as there is an associated gift tax for transactions exceeding this amount. Likewise, receiving cryptocurrency as a gift is not a taxable event if the amount is below $15,000. If it exceeds this amount, the additional amount must be declared as income when doing your tax return.

Form 1040 Schedule 1: This form is new from 2019 and is used to report income made in cryptocurrency.

The information provided on this website is general in nature and is not tax, accounting or legal advice. It has been prepared without taking into account your objectives, financial situation or needs. Before acting on this information, you should consider the appropriateness of the information having regard to your own objectives, financial situation and needs and seek professional advice. Cryptotaxcalculator disclaims all and any guarantees, undertakings and warranties, expressed or implied, and is not liable for any loss or damage whatsoever (including human or computer error, negligent or otherwise, or incidental or Consequential Loss or damage) arising out of, or in connection with, any use or reliance on the information or advice in this website. The user must accept sole responsibility associated with the use of the material on this site, irrespective of the purpose for which such use or results are applied. The information in this website is no substitute for specialist advice.

Shane Brunette

CEO

Shane Brunette founded CTC back in 2018 after dealing with his own crypto tax nightmare. He has worked closely with accountants and tax lawyers to make it easy for fellow cryptocurrency users to be tax compliant.

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