Crypto Taxes: Do I Need To Report My Gains And Losses?

Crypto Capital Gains and Losses

As cryptocurrencies continue to grow in popularity, so do questions about how these digital assets are taxed. If you’ve been trading, investing, or earning income in crypto, it’s important to understand your tax obligations for the 2024 tax year.

Do I Need to Report My Crypto Transactions?

Yes. The IRS requires taxpayers to report all transactions involving cryptocurrencies, such as Bitcoin or Ethereum, because they are treated as property for federal tax purposes, according to IRS Notice 2014-21. This means the same general tax principles that apply to property transactions also apply to crypto.

For federal tax purposes, virtual currency is treated as property

You can calculate the capital gains/losses on your crypto transactions with the use of a simple formula:

Fair Market Value (FMV) – Cost Basis = Capital gain or loss

Where: FMV = the price that an asset, such as cryptocurrency, would sell in the open market to a willing buyer. Cost basis = The amount of money used to purchase or invest in the crypto (how much the investment costs you).

Your cost basis will include not just the purchase price but all fees, commissions, etc., involved in the purchase.

Example:

Sally buys 1 LTC for $175, so her cost basis is $175 per LTC purchased. If she sells or trades it when the price hits $300, the established market value is $300, and she has a $125 gain on the sale as shown in the formula below:

$300 (Fair market value) – $175 (Cost basis) = $125 (Gain)

This example was pretty straightforward because it involved only one purchase. Things get more complex with multiple purchases at different price points, and the following example will show how these transactions must be calculated.

Multiple Transaction Example:

John has been increasing his holdings of BTC by making three purchases over the past three months. He then trades some of his BTC and receives units of ETH in exchange. His transaction history shows the following:

• 6/1/20 – Bought 1 BTC at $17,000
• 7/1/20 – Bought 1 BTC at $15,000
• 8/1/20 – Bought 1 BTC at $12,000
• 9/1/20 – Traded .5 BTC for 6 ETH (0.5 BTC was trading at $6,000 during this transaction)

The result of this trading activity is the creation of a taxable event and either a gain or loss because of the trade on 9/1/20. Sticking with the formula mentioned above, John would calculate his gain/loss by subtracting the cost from the fair market value when the trade took place.

The challenge is knowing what cost basis to use since John made three BTC purchases at different price points. Figuring out the right cost basis to use involves determining which BTC he’s actually disposing of in this transaction.

Crypto assets are considered property, and accountants treat them as they would treat tangible inventory, such as products in a warehouse. Typical accounting methods include First-In-First-Out (FIFO) or Last-In-First-Out (LIFO). The typical method for this scenario is FIFO.

To apply this method, the first crypto purchased on 6/1/20 would be considered the first one sold; you are disposing of your units of crypto in the same order in which you first purchased them.

Example:

Using FIFO as described above, let’s say you sold your BTC from 6/1/20, acquired at $17,000. Your cost basis on this BTC is $17,000, making .5 BTC a cost of ($17,000 * .5) = $8,500.

In the example transaction history above, the FMV of .5 BTC was $6,000 at the time of the exchange.

Now we will apply the formula to calculate the gain or loss on this transaction.

$6,000 (FMV) – $8,500 Cost basis ($17,000 * .5) = -$2,000, or a $2,000 capital loss.

This resulting loss gets reported on your tax return and will lower the income you pay taxes on.

Read also: Taxable Events from your Crypto Investing Activity

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