Crypto Tax Glossary

Cost Basis

Your cryptocurrency's cost basis represents the original purchase price you paid when acquiring the crypto asset, including any associated transaction fees. Understanding cost basis is crucial for accurate tax reporting, as it directly impacts the calculation of capital gains or losses when you dispose of your crypto holdings. The cost basis serves as the baseline for determining whether you've made a profit or loss on your crypto transactions during a tax year.

For example, if you purchased Bitcoin for $10,000 and paid a $50 transaction fee, your total cost basis would be $10,050. This figure becomes essential when calculating taxable gains or deductible losses upon selling or trading the asset.

Cost Basis Method

When you've acquired cryptocurrency at different times and prices, determining which specific units you're selling or trading requires selecting a cost basis method. This choice can significantly impact your tax liability and should align with your overall tax strategy. The IRS recognizes several cost basis methods, and consulting with a tax professional before making this decision is highly recommended.

The most commonly used cost basis methods include:

• FIFO (First-In, First-Out): This method assumes that the crypto you disposed of is the crypto you held the longest. FIFO is the default method used by the IRS when taxpayers don't maintain detailed transaction records. This approach is straightforward and widely accepted.

• HIFO (Highest-In, First-Out): Under this method, you're considered to have sold, traded, or disposed of the crypto with the highest cost basis among all your holdings. This strategy can be beneficial for minimizing capital gains in certain scenarios.

• LIFO (Last-In, First-Out): This method assumes the crypto you disposed of is the most recently acquired crypto in your portfolio. LIFO can be advantageous in rising markets where recent purchases have higher cost bases.

• Specific Identification: This method allows you to designate exactly which crypto assets purchased at different times or prices you're selling. It offers the most flexibility but requires meticulous record-keeping.

Deduction

In tax terminology, deductions are expenses or losses that can be used to reduce your annual taxable income. For cryptocurrency investors, capital losses from selling, converting, or otherwise disposing of crypto assets qualify as deductions. These losses can offset capital gains on a dollar-for-dollar basis within the same tax year.

The tax code provides additional flexibility: if your crypto losses exceed your capital gains in a given tax year, you can offset up to $3,000 of ordinary income. Any remaining losses can be carried forward to future tax years as deductions, a provision known as tax loss carryforward. This mechanism ensures that significant losses aren't wasted and can provide tax benefits over multiple years.

Form 1040

Form 1040, officially titled the U.S. Individual Income Tax Return, is the standard federal income tax form used by individual taxpayers. This comprehensive form is used to calculate your total taxable income, including earnings from cryptocurrency transactions. All crypto-related income, whether from trading, staking, or other activities, must be reported through Form 1040 or its associated schedules.

Form 1099-MISC

Form 1099-MISC is used to report miscellaneous income, including cryptocurrency rewards and staking income. If you earned $600 or more in crypto through staking or rewards programs during a tax year, crypto platforms are required to report these transactions to the IRS using Form 1099-MISC, and you must also report this income on your tax return.

It's important to note that even if your staking or rewards income falls below the $600 reporting threshold, you're still legally obligated to report the amount on your tax return. Crypto platforms may issue this form for various types of income, and since cryptocurrency tax regulations continue to evolve, you may encounter different IRS forms across various crypto exchanges.

Form 1099-DA

Form 1099-DA is a newer IRS form introduced for reporting cryptocurrency sales and exchanges. Beginning with recent tax years, crypto platforms are required to report your crypto sales and exchanges to the IRS using this form. Initially, platforms report gross proceeds only, and in subsequent years, they will report both gross proceeds and cost basis.

Despite receiving this form, taxpayers should maintain comprehensive records of all crypto transactions across different platforms to ensure accurate reporting on tax returns. This form represents the IRS's efforts to standardize cryptocurrency transaction reporting and improve tax compliance.

Hard Fork

A hard fork occurs when a blockchain network undergoes a fundamental protocol change that creates a new, separate blockchain from the original. Notable examples include the creation of Bitcoin Cash in 2017, when Bitcoin holders received an equivalent amount of the new cryptocurrency. According to IRS guidance issued in a memorandum, any new cryptocurrency received from a hard fork is treated as taxable income at the time you gain control over it.

The tax implications of hard forks can be complex, as they involve determining the fair market value of the new cryptocurrency at the time of receipt. This income must be reported on your tax return, even if you don't immediately sell or trade the newly acquired crypto.

Internal Revenue Service

The Internal Revenue Service (IRS) is the federal government agency responsible for administering and enforcing U.S. tax laws. This includes the collection of taxes and the interpretation of tax regulations as they apply to cryptocurrency transactions. The IRS has been actively developing guidance for crypto taxation, treating virtual currencies as property for tax purposes.

Loss Harvesting

Tax-loss harvesting is a strategic approach where investors sell cryptocurrency when its market value drops below the original purchase price. These realized losses can be used to offset capital gains from other crypto transactions within the same tax year. If you haven't realized capital gains from crypto sales, you can still use up to $3,000 of capital losses to offset ordinary income when filing your tax return.

The strategy requires understanding the proper order of loss application:

• Long-term capital losses must first offset long-term capital gains
• Short-term capital losses must first offset short-term capital gains

If you have excess short-term losses after offsetting short-term gains, you can apply them to long-term capital gains. Any remaining losses beyond your total gains can offset up to $3,000 of ordinary income, with additional losses carried forward to future tax years.

Miscellaneous Income

Miscellaneous income from cryptocurrency includes earnings from mining, staking, rewards programs, promotional incentives from crypto platforms, and related crypto activities. The IRS treats all these earnings as taxable income that must be reported on your tax return.

If you earned $600 or more in such income, you should receive a Form 1099-MISC from the entity that issued the payment. However, even without receiving this form, you remain responsible for reporting all miscellaneous crypto income to the IRS, regardless of the amount.

Net Investment Income Tax

The Net Investment Income Tax (NIIT) is an additional 3.8% tax levied on investment income, including capital gains, dividends, and rental property income. This tax applies specifically to high-income taxpayers: single filers with income exceeding $200,000 and married couples filing jointly with income over $250,000. Certain estates and trusts are also subject to NIIT.

For cryptocurrency investors whose trading activities generate substantial capital gains, the NIIT can represent a significant additional tax burden beyond regular capital gains taxes. Understanding whether your crypto gains may trigger NIIT is important for comprehensive tax planning.

Net Returns

Your net return on a cryptocurrency transaction represents the total amount received minus all associated costs. Various factors influence net returns, including market price fluctuations, transaction fees for purchases and sales, network fees, and any other costs incurred during the holding period.

While calculating net returns provides valuable insight into your actual profit or loss from crypto investments, this specific figure isn't required on tax forms. Instead, you'll report gross proceeds and cost basis separately, allowing the IRS to calculate your capital gains or losses.

Non-Fungible Token

Non-Fungible Tokens (NFTs) are unique digital assets where each token possesses distinct characteristics and cannot be duplicated or exchanged on a one-to-one basis with another NFT. This contrasts with fungible assets like traditional cryptocurrencies or dollar bills, which are interchangeable and hold identical value.

NFTs have various use cases, from digital art and collectibles to virtual real estate and gaming items. The tax implications of NFTs depend on several factors: whether you're an investor or creator, and what transactions you've conducted with your NFTs. Since the IRS hasn't issued specific NFT guidance, consulting a tax professional about NFT-related income, proceeds, or royalties is advisable.

Ordinary Income

Ordinary income refers to any income taxed at your regular income tax bracket rates. In the cryptocurrency context, ordinary income includes crypto received as employment compensation, staking rewards, promotional incentives, mining income, and short-term capital gains (from crypto held less than one year).

A critical point for crypto users: you're required to report all cryptocurrency received as income on your tax forms, regardless of the amount. Even earning just $1 in crypto creates a reporting obligation. This income is typically reported at the fair market value of the crypto at the time you receive it.

Realized Gains and Losses

Realized capital gains represent profits from selling, trading, or otherwise disposing of cryptocurrency, while realized losses represent losses incurred during these transactions. The key distinction is that gains and losses only become "realized" when you actually dispose of the crypto asset.

Simply holding cryptocurrency in a wallet or exchange account, even as its value fluctuates, doesn't create taxable events. The gains or losses become realized and reportable to the IRS only upon disposal. Realized losses can be valuable for tax purposes, as they may be deducted from overall capital gains, potentially reducing your tax liability.

Schedule 1

Schedule 1, titled "Additional Income and Adjustments to Income," is a supplementary form attached to your individual tax return (Form 1040). This schedule is used to report various types of income not captured on the main Form 1040, including cryptocurrency mining income, staking rewards, and other miscellaneous crypto income reported on Form 1099-MISC.

Schedule 1 ensures that all sources of income, including those from cryptocurrency activities, are properly accounted for in your total taxable income calculation.

Taxable Event

A taxable event is any transaction or activity subject to taxation. In cryptocurrency, most activities are taxable, but important exceptions exist. Simply buying and holding crypto, or minting and holding an NFT, are not taxable events. However, selling crypto for fiat currency, trading one cryptocurrency for another, using crypto to purchase goods or services, and receiving crypto as income all constitute taxable events.

Understanding which crypto activities trigger tax obligations is essential for proper tax planning and compliance. Each taxable event may require documentation and reporting on your tax return.

Taxable Income

Taxable income is the total amount of income subject to taxation during a tax year, including all income received in cryptocurrency. If you receive payment in crypto or accept crypto for goods or services, this constitutes taxable income that must be reported to the IRS at the fair market value of the crypto at the time of receipt.

An important consideration: crypto platforms aren't required to report all taxable events to the IRS or to users. As a taxpayer, you bear ultimate responsibility for identifying and reporting all taxable crypto activities. When uncertain about reporting requirements, consulting a tax professional is recommended.

Tax Bracket

Tax brackets are income ranges that determine the percentage of tax you'll pay on different portions of your income. The U.S. federal tax system currently uses seven tax brackets, with rates ranging from 10% to 37%. Your tax bracket is determined by your total taxable income, including gains from cryptocurrency activities.

Significant crypto profits can increase your overall taxable income, potentially pushing you into a higher tax bracket. This means you may pay a higher marginal tax rate on a portion of your earnings. Understanding how crypto gains affect your tax bracket is important for effective tax planning and estimating your tax liability.

Unrealized Gains and Losses

Unrealized gains represent increases in the value of cryptocurrency you currently hold, while unrealized losses represent decreases in that value. These gains and losses are termed "unrealized" because you haven't yet sold, traded, or otherwise disposed of the crypto assets.

Unrealized gains and losses have no immediate tax implications: you don't pay taxes on unrealized gains, and you cannot use unrealized losses to offset realized gains. Additionally, you don't need to report unrealized gains or losses to the IRS. They only become relevant for tax purposes when you dispose of the crypto and the gains or losses become realized.

Wash Sale

The wash-sale rule is a tax regulation that prevents investors from selling securities at a loss solely to claim a tax deduction. A wash sale occurs when you sell a security at a loss and then repurchase the same or substantially identical securities within 30 days before or after the sale date. When this happens, the loss cannot be claimed for tax purposes.

Currently, the wash-sale rule applies to stocks and bonds but not to cryptocurrency. However, this regulatory gap may close in the future, as recent congressional proposals have suggested extending wash-sale rules to crypto assets. Until such legislation passes, crypto investors can still employ loss-harvesting strategies that would trigger wash-sale rules in traditional securities markets.

Form W-9, Request for Taxpayer Identification Number and Certification

Form W-9 is an IRS tax form used to collect and confirm an individual's or entity's name, address, and taxpayer identification number (TIN). This form is commonly used in employment situations and other income-generating contexts. Crypto platforms may request Form W-9 from users to comply with tax reporting requirements and properly issue tax forms like 1099-MISC or 1099-DA.

Providing accurate W-9 information ensures that your crypto transactions are correctly reported to the IRS under your taxpayer identification number.

Forms W-8 BEN, W-8 BEN-E, W-8 ECI, W-8 EXP, and W-8 IMY

The W-8 series of forms allows non-U.S. individuals and businesses to certify their foreign status and confirm they are not U.S. taxpayers. These forms are used by crypto platforms and other financial institutions to determine proper tax withholding and reporting obligations for non-U.S. persons.

Different W-8 forms serve specific purposes: W-8 BEN for individuals, W-8 BEN-E for entities, W-8 ECI for income effectively connected with U.S. trade or business, W-8 EXP for foreign governments and tax-exempt organizations, and W-8 IMY for intermediaries. Non-U.S. crypto users should complete the appropriate W-8 form to establish their tax status and potentially reduce or eliminate U.S. tax withholding on their crypto activities.

FAQ

What is Cryptocurrency Capital Gains Tax?

Capital gains tax on cryptocurrency is a tax on profits earned from selling digital assets. It is calculated as the difference between the purchase price and selling price. Tax rates vary based on holding periods, typically distinguishing between short-term and long-term gains.

How to calculate taxable gains from cryptocurrency trading?

Calculate taxable gains by subtracting your purchase price from the sale price. Multiply the result by the applicable tax rate based on your jurisdiction. Maintain detailed transaction records including dates, amounts, and prices for accurate reporting and compliance with local tax regulations.

What is Cost Basis in cryptocurrency?

Cost Basis is the total amount you paid to acquire a cryptocurrency, including the purchase price, transaction fees, and other related costs. It's used to calculate your investment gains or losses for tax purposes.

Do crypto mining earnings need to be taxed?

Yes, crypto mining income is taxable. The IRS requires you to report mining earnings as ordinary income and may require quarterly estimated tax payments. Failure to pay can result in penalties and interest.

What is the tax treatment method for DeFi yield and staking rewards?

DeFi yield and staking rewards are typically taxed as ordinary income at the time of receipt based on fair market value. Some jurisdictions may apply capital gains treatment to subsequent asset appreciation. Tax obligations vary by region and may include reporting requirements for each transaction.

What is the difference between cryptocurrency transfers and trades in terms of taxation?

Cryptocurrency transfers and trades differ in tax treatment. Transfers between your own wallets are typically non-taxable, while trades—exchanging one crypto for another or converting to fiat—trigger capital gains taxes. Gains are taxed at short-term rates if held under one year, or long-term rates if held over one year.

What is the Wash Sale Rule for cryptocurrencies?

The Wash Sale Rule prevents investors from claiming tax deductions by selling crypto at a loss and immediately repurchasing the same or substantially identical asset. Originally from stock markets, this rule also applies to cryptocurrency trading to prevent tax avoidance strategies.