Written by: David Kemmerer the Co-Founder and CEO of CryptoTrader.Tax, the leading online tax reporting platform for the growing cryptocurrency market.
In most countries around the world, the income generated from investing in cryptocurrencies like bitcoin needs to be reported on your taxes. This type of tax reporting is no different from stocks, equities, or other forms of property. However, for cryptocurrency traders, especially high-volume ones, the process can become tedious. In this guide, we break down crypto taxes, how they work, and the step-by-step approach you can take to properly file your taxes.
The information in this guide specifically addresses tax reporting in the U.S. Be sure to research reporting requirements in your country when doing your crypto taxes.
How Do Cryptocurrency Taxes Work?
It’s important to understand that cryptocurrencies themselves are not taxed outright. In other words, just holding crypto does not expose you to any tax liabilities. Rather, the income that you generate from selling, trading, and investing in cryptocurrency is a form of taxable income, and it needs to be reported on your tax return.
Specifically, the IRS classifies cryptocurrencies as property for tax purposes. When you sell or dispose of property for more or less than you originally acquired it for, you incur a capital gain or a capital loss. All of your capital gains and losses get reported on IRS Form 8949 and are included with your holistic tax return.
John buys 1 Bitcoin for $5,000. Six months later, he sells that same Bitcoin for $7,000. In this scenario, John has a capital gain of $2,000. This capital gain gets reported on John’s tax return.
What If You Lost Money?
What if instead of making money (a capital gain), you lost money on your crypto trades? Do you still need to report this on your taxes?
The answer is yes.
All taxable events need to be reported on Form 8949, capital losses included. The great thing here is that reporting your capital losses will actually reduce the total amount you owe in taxes! Capital losses lower your taxable income.
Craig earns $50,000 per year from his job as a copywriter. In February, he purchases $1,000 worth of Ethereum. Two months later, he sells this Ethereum for $500.
In this scenario, Craig incurs a $500 capital loss from selling his Ethereum. This loss gets reported on his 8949, and Craig’s overall taxable income for the year becomes $45,500.
Crypto to Crypto Trades
Crypto to crypto trades also trigger a taxable event—meaning they trigger a capital gain or capital loss that needs to be reported. This fact makes things more difficult for traders as crypto-crypto trades happen all the time and aren’t usually quoted in USD.
Megan purchased $500 of Bitcoin in March. This amounted to 0.05 BTC at the time. In April, she traded 0.025 BTC for 1.2 ETH. We know that trading one crypto for another triggers a capital gain/loss, so how does Megan calculate her gain or loss for this transaction?
It all depends on what the fair market value for 0.025 BTC was at the time that she traded it for 1.2 ETH.
In this example, let’s say 0.025 BTC was worth $400 at the time.
Megan’s cost basis in 0.025 BTC is $250 ($500 * .025/0.05). She traded her 0.025 BTC when it was worth $400. In this case, Megan recognizes a $150 capital gain from this BTC > ETH trade ($400 - $250).
Tax Reporting For Algorithmic and High Volume Traders
As you can see, doing these gains and losses calculations for every single crypto-crypto trade can become extremely tedious, but it is nec
For algorithmic traders who are trading on a variety of exchanges, it is important to pull together all records of your trade history. This can be done by going to your cryptocurrency exchanges and exporting a CSV transaction history file containing your trade history for that specific exchange. All major exchanges have this functionality and export capability built in.
Once you have your records of all of your cryptocurrency transactions, you can pull them together in one spreadsheet or in one unit of record and perform the capital gains/losses calculations for each of your trades.
Once this is done, you can fill out your Form 8949 with this information.
Cryptocurrency Tax Software
Instead of doing all of the capital gains and losses calculations by hand, you can look into automating the entire process by using specific cryptocurrency tax software. Platforms like CryptoTrader.Tax allow you to import your historical transactions across all of your exchanges with the click of a button. No manual work is required on your end. Once all of your historical transactions are imported into the software, you can generate your necessary cryptocurrency tax reports including IRS Form 8949 with the click of a button.
Filling Out Form 8949
As mentioned above, each taxable event and each capital gain or loss that you incur while trading need to get reported on Form 8949. As pictured below, include a description of the crypto you disposed of (ex. 1.2 ETH), the date that you originally acquired the crypto, the date you sold or traded the crypto, the proceeds (Fair market value), your cost basis in the asset, and the associated gain or loss.
Once you enter every trade onto this form, you sum everything up to arrive at your net capital gain or loss which goes in the bottom right hand corner. This net capital gain/loss then gets transferred to your Schedule D and filed with your tax return.
If you are using a trading bot, it’s important to keep good records for all of your trading activity across all of your exchanges so that your tax reporting at the end of the year is as easy as possible.