Selling Your Bitcoin at a Loss? 4 Tax Rules Investors Need to Know

Losses on bitcoin or other cryptocurrencies? 4 rules determine how crypto losses impact your taxes.

Investors who recently sold their bitcoin positions at a loss should be alert to four special rules that determine how to treat cryptocurrency losses for tax purposes.

Rule #1. Losses on cryptocurrency offset other types of capital gains.

For tax purposes, selling bitcoin and other types of cryptocurrency is treated as selling a capital asset. That means a loss on cryptocurrency is very similar to a loss incurred when selling a stock or bond.The gain or loss is measured on each transaction where the cryptocurrency is sold.

Losses on one particular trade directly offset gains on other trades, whether the gain from another coin or even gain from your stock portfolio.

This can be a useful tax planning strategy. Losses accumulated throughout the year provides an opportunity to sell other investments with unrealized gains — a tax strategy known as capital loss harvesting.

Rule #2. Net capital loss up to $3,000 can be deducted against other types of income.

Whenever a person’s total capital gains and losses for the year add up to a negative number, a special rule comes into play. This is referred to as a net capital loss.

If the net capital loss is less than or equal to $3,000 (or $1,500 if you are married and filing a separate tax return), then the entire amount of the net capital loss can be used in that year’s tax return to offset other types of income. Offsetting other types of income simply means that the net capital loss reduces how much income is being taxed this year.

Rule #3. Any net capital loss in excess of $3,000 will roll over to next year.

If the net capital loss is more than $3,000 (or $1,500 if you are married and filing a separate tax return), then only $3,000 (or $1,500) of losses can be taken in the current tax year, and the remainder of the capital loss carries over to next year’s tax return.

For example, if you have $10,000 of net capital losses and you are a single taxpayer, then you deduct $3,000 of your capital losses against your other income (which produces a tax benefit this year). The remaining $7,000 of net capital losses roll over to next year’s tax return (which produces a tax benefit on next year’s tax return).

Rule #4. The wash sale rule does not apply to cryptocurrency.

The wash sale rule kicks in if an investor repurchases the same or a substantially identical investment within 30 days before or 30 days after selling the original investment at a loss. The intent of the wash sale rule is to prevent an investor from selling an investment at a loss solely for tax purposes, only to repurchase the same investment immediately or in a short window of time.

A crucial question is whether the wash sale rule applies to investments in bitcoin and other cryptocurrencies?

Good news, because the short answer is no. The wash sale rule does not apply to digital currencies. That’s because the wash sale rule only applies to sales of stock and securities. And bitcoin is not a stock or a security. From a tax perspective, digital currency is treated as property.

Suppose a trader sold three bitcoins on February 5, 2018, at a loss. On February 12, 2018, the trader bought three new bitcoins. Ordinarily, accountants would look at this and disallow booking the loss on the tax return because of the wash sale rule. Except bitcoin is not a stock or a security. So the wash sale rule does not apply. This trader should be allowed to claim the capital loss on the sale that occured on February 5th, even though the coins were re-purchased within 30 days.

There is talk among tax professionals whether the IRS will come forth with additional guidance that seeks to make the wash sale rule apply to digital currency transactions. So far, that has not happened, but we’re on the lookout for any changes to this policy.

(This article was originally published in the International Business Times. Photo credit to Marco Verch / Flickr.)

 

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4 Comments

    1. The economic substance doctrine could certainly come into play here. We haven’t gotten much guidance from the IRS, but they could certainly apply it here. However, how long do you have to be out of the market before buying back in without violating the economic substance doctrine? Nobody knows for sure, so even staying out of the market for just one day, or even a couple hours, might be more than sufficient. What is for sure is that the wash sale rules currently do not apply, but you could play it safe and stay out of the market for the full 30 days if you think that would better satisfy the economic substance doctrine.

      If you want to discuss the pros/cons with our tax team, create a free account at app.visor.com/start and shoot us a message through our chat panel!

  1. My crypto investment has lost around $1300 value . I purchased it in 2018 , and haven’t sold it yet.

    I am thinking to sell it at a loss by Dec 31 for tax purposes, so that i can get some money back.

    My Question is if i don’t see it and hold it into 2019, and still sell it at a loss in 2019, will i be able to deduct the loss in the 2019 tax return.

    1. Hi Ben – Yes, if you didn’t end up selling it in 2018, you can certainly still sell it sometime during 2019 if crypto prices do not recover and deduct the loss on your 2019 tax return.

      The one thing you should keep track of is the date at which point your investment will switch from short-term to long-term, which happens one year after the original date of your investment. Long-term losses must first be used to offset any other long-term gains that you have (while short-term losses are first applied against any short-term gains). Since short-term gains are taxed at higher rates than long-term capital gains, it can be more beneficial to recognize the crypto losses before they become ‘long-term’. Since there aren’t wash sale rules and you can almost immediately re-purchase the investment if you’d like to keep it, recognizing those losses while they’re short-term is likely the optimal solution. But feel free to create a free Visor account and send us a message if we can help figure out what is most tax optimal for you!

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