Crypto Losses and Taxes: How to Properly Declare Your Losses

Navigating Crypto Losses and Tax Write-Offs

How to declare crypto losses on taxes can save you money and ease the pain of losing investments. The IRS allows you to offset your capital gains and up to $3,000 of personal income each year by reporting your crypto losses. Even if you don’t get a Form 1099 from your exchanges, you’re still required to report these losses to take advantage of potential tax savings.

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• Calculate your capital loss: Proceeds – Cost Basis
• Report on Form 8949: Include dates, USD value, and net gain/loss
• Transfer to Schedule D of Form 1040: Sum totals, integrate results

Ignoring these steps means you miss out on invaluable tax write-offs, making it crucial to track and declare your crypto losses properly.

Understanding Crypto Losses and Their Tax Implications

Short-Term vs. Long-Term Losses

When you sell your cryptocurrency, the IRS classifies the resulting gains or losses as either short-term or long-term. This classification hinges on how long you held the asset before selling it.

Short-term gains or losses occur when you hold your crypto for less than a year before selling. These are taxed at your ordinary income tax rates, which can be higher.

Long-term gains or losses apply if you hold your crypto for a year or more. These benefit from lower tax rates, making it more favorable to hold your assets longer if you anticipate gains.

Example: If you bought Bitcoin in January and sold it in December of the same year, any gain or loss would be short-term. But if you held it until January of the following year, it would be considered long-term.

Realized vs. Unrealized Losses

Realized losses are those that occur when you sell or dispose of your cryptocurrency. These losses can offset other taxable gains or even reduce your taxable income.

Unrealized losses, on the other hand, occur when the value of your cryptocurrency drops but you haven’t sold it yet. Because you still hold the asset, these losses remain “on paper” and do not impact your taxes.

Example: Sara buys $20,000 worth of Bitcoin. The value drops to $15,000, but she doesn’t sell. She has a $5,000 unrealized loss. If she sells, it becomes a realized loss, which she can then report on her taxes.

Taxable Events for Crypto

The IRS considers several actions with your cryptocurrency as taxable events:

• Selling crypto for fiat currency (like USD)
• Trading one crypto for another
• Using crypto to make a purchase

Each of these actions can lead to realized gains or losses, which you need to report.

Example: If you bought Dogecoin for $40,000 and later used it to buy an $80,000 Tesla, the $40,000 gain is taxable.

Holding Crypto

If you just hold your crypto without selling or trading, you don’t owe any taxes. The IRS does not tax you on the appreciation of your holdings until you realize the gains by selling or trading.

Example: If you bought Ethereum and its value increased but you didn’t sell, you won’t owe any taxes on that increase until you decide to sell or trade your Ethereum.

Understanding these classifications and rules can help you better manage your crypto investments and tax liabilities. Next, we’ll dive into the step-by-step guide to reporting your crypto losses.

How to Declare Crypto Losses on Taxes

Step-by-Step Guide to Reporting Losses

Declaring your crypto losses on taxes might seem daunting, but it’s straightforward if you follow these steps. Let’s break it down:

1. Gather Your Transaction Data:

   • Dates: Note when you bought and sold each cryptocurrency.
   • Cost Basis: This is the amount you paid for the crypto, including any transaction fees.
   • Proceeds: The amount you received from selling the crypto, or its market value if used as payment.

2. Complete Form 8949:

   • Separate Transactions: Use different sections for trades that did and didn’t generate a Form 1099-B.
   • Categories:
     • Box A: Short-term trades with cost basis reported.
     • Box B: Short-term trades without cost basis reported.
     • Box C: Short-term trades with no 1099-B.
     • Box D: Long-term trades with cost basis reported.
     • Box E: Long-term trades without cost basis reported.
     • Box F: Long-term trades with no 1099-B.
   • Details: For each transaction, fill in the description, acquisition date, disposal date, proceeds, cost basis, and net gain or loss.

3. Transfer Totals to Schedule D:

   • Part I: Enter short-term gains and losses.
     • Line 1b: Totals for Box A from Form 8949.
     • Line 2: Totals for Box B.
     • Line 3: Totals for Box C.
   • Part II: Enter long-term gains and losses.
     • Line 8b: Totals for Box D.
     • Line 9: Totals for Box E.
     • Line 10: Totals for Box F.

4. Include on Form 1040:

   • Line 7: Report your net capital gain or loss.

Using Tax Software for Reporting

Using crypto tax software can simplify this process. Tools like CoinLedger help track transactions and generate tax reports.

• Transaction Tracking: Automatically import transactions from various exchanges.
• Cost Basis Calculation: Accurately calculate the cost basis for each transaction.
• Report Generation: Generate Form 8949 and Schedule D with all the necessary details.

Example: Jane used CoinLedger to track her 2022 crypto trades. The software imported her transaction data, calculated her gains and losses, and generated Form 8949 and Schedule D. She simply transferred the totals to her Form 1040, saving hours of manual work.

By following these steps and using the right tools, you can accurately declare your crypto losses and stay compliant with IRS regulations. Next, we’ll explore special scenarios for crypto losses, like worthless or stolen crypto.

Special Scenarios for Crypto Losses

Worthless Cryptocurrency

Sometimes, your digital assets might become completely worthless. In this case, the IRS treats the loss differently than a typical sale.

Key Point: The asset must be completely worthless, not just nearly worthless, for you to claim a loss.

When your cryptocurrency becomes worthless, the loss is considered an ordinary loss. However, due to the Tax Cuts and Jobs Act of 2017, such losses are treated as miscellaneous itemized deductions. Unfortunately, these deductions are not allowed for tax years 2018 through 2025.

Example: If you bought $1,000 worth of a cryptocurrency that is now worth $0, you cannot deduct this loss on your tax return due to the current tax laws.

Stolen Cryptocurrency

If your cryptocurrency is stolen, you might think you can claim a theft loss. However, the IRS has specific rules about this.

Key Point: According to IRS Publication 547, theft losses are generally reported on Form 4684, “Casualties and Thefts.”

Example: If your digital wallet was hacked and you lost $5,000 worth of cryptocurrency, you would typically report this theft using Form 4684. However, the Tax Cuts and Jobs Act of 2017 has also limited deductions for personal theft losses to only those occurring in a federally declared disaster area until 2025.

Frozen Accounts and Bankruptcy

If your cryptocurrency is in a frozen account or tied up in bankruptcy proceedings, you can’t claim a loss until the situation is resolved.

Key Point: You need a closed and completed transaction to claim a loss.

Example: If your account is frozen and you can’t access your assets, you must wait until the account is unfrozen to reassess your situation. If your assets are still intact and have any value, you don’t have a recognizable loss.

Bankruptcy: If your digital assets are tied up in bankruptcy proceedings, you can’t claim a loss until the proceedings are complete.

Example: If you receive a settlement from the bankruptcy proceedings, this is considered a sale. Calculate your capital loss (or gain) on Form 8949 and report it on Schedule D (Form 1040) for the year you received the settlement.

If you receive nothing from the bankruptcy settlement, your digital assets may be considered worthless, and different rules apply, as discussed earlier.

By understanding these special scenarios, you can better steer the complexities of declaring crypto losses on your taxes. Next, we’ll discuss tax-loss harvesting with cryptocurrency and how you can benefit from it.

Tax-Loss Harvesting with Cryptocurrency

Benefits of Tax-Loss Harvesting

Tax-loss harvesting is a strategy that can help offset capital gains and reduce your tax liability. By selling cryptocurrency at a loss, you can use that loss to balance out gains from other investments. This can be especially useful in a volatile market.

No Wash Sale Rule

One major advantage for crypto investors is the current lack of a wash sale rule. The wash sale rule prevents investors from claiming a capital loss on stocks if they repurchase the same asset within 30 days. Since cryptocurrencies are classified as property by the IRS, this rule doesn’t apply. That means you can sell your crypto at a loss, claim the loss on your taxes, and immediately repurchase the same assets without penalty.

Offset Ordinary Income

You can also use up to $3,000 of your crypto losses to offset ordinary income each year. If your losses exceed this amount, you can carry them forward to future tax years.

How to Execute Tax-Loss Harvesting

Sell at a Loss

The first step in tax-loss harvesting is to sell your cryptocurrency at a loss. For example, if you bought Bitcoin for $10,000 and its value drops to $7,000, selling it would realize a $3,000 loss.

Immediate Repurchase

Since the wash sale rule doesn’t apply to crypto, you can immediately repurchase the same cryptocurrency. This allows you to maintain your investment while still benefiting from the tax loss. Just make sure to document the transactions carefully.

Track Transactions

Accurate record-keeping is essential. Use crypto tax software like CoinLedger to track your transactions. This software can help you generate complete tax reports and identify tax-saving opportunities.

Report on Form 8949

Finally, report your transactions on Form 8949. Include details like the description of the asset, acquisition date, sale date, proceeds, and cost basis. Calculate your total gain or loss and transfer this information to Schedule D on your Form 1040.

By following these steps, you can effectively execute tax-loss harvesting and reduce your tax liability. Next, let’s dive into some frequently asked questions about declaring crypto losses.

Frequently Asked Questions about Declaring Crypto Losses

How do I report crypto losses on my taxes?

To report crypto losses on your taxes, you’ll need to fill out several forms. Here’s a quick breakdown:

1. Form 8949: Use this form to list all your cryptocurrency transactions. You’ll need to provide details such as the description of the asset, acquisition date, sale date, proceeds, and cost basis. Calculate your total gain or loss for each transaction.

2. Schedule D: Transfer the total net gain or loss from Form 8949 to Schedule D. This form summarizes your capital gains and losses for the tax year.

3. Form 1040: Finally, include the information from Schedule D on your Form 1040, the main form for filing your income tax return. Make sure to check the box at the top of Form 1040 that asks if you received, sold, sent, exchanged, or otherwise acquired any financial interest in virtual currency during the tax year.

Can I write off investment losses on my taxes?

Yes, you can write off investment losses on your taxes. Here’s how:

• Capital Loss Deduction: You can use your crypto losses to offset capital gains from other investments. If your losses exceed your gains, you can deduct up to $3,000 of your losses against your ordinary income.

• Carryforward: If your net losses exceed $3,000, you can carry the remaining amount forward to future tax years. This means you’ll be able to use those losses to offset gains or up to $3,000 of ordinary income in subsequent years.

Do I have to report crypto on taxes if I lost money?

Yes, you must report all cryptocurrency transactions to the IRS, even if you lost money. Here’s why:

• Reporting Requirements: The IRS requires you to report all taxable events, including losses. Not reporting your losses means you won’t be able to claim the associated tax benefits.

• Taxable Events: Cryptocurrency transactions such as selling, trading, or disposing of crypto are considered taxable events. This applies even if you did not receive a Form 1099 from your exchange.

By following these guidelines and using the appropriate forms, you can ensure you’re compliant with IRS regulations and potentially reduce your tax liability through capital loss deductions. Next, let’s explore special scenarios for crypto losses.

Conclusion

Understanding how to declare crypto losses on taxes is crucial for every investor. By following the right steps, you can offset your capital gains and potentially lower your tax bill.

At CoinBuzzFeed, we strive to provide you with the latest and most accurate tax guidance. Staying informed about evolving regulations is essential, as the IRS frequently updates its rules regarding cryptocurrency.

Taxable events like selling or trading crypto must be reported. Not reporting your losses means missing out on potential tax benefits. Using tools like CoinLedger can simplify tracking your transactions and generating the necessary tax reports.

For more detailed guidance on cryptocurrency taxation, visit our cryptocurrency tax guide. Stay ahead of the curve, and ensure you’re compliant with the latest IRS regulations.

By staying informed and following these guidelines, you can effectively manage your crypto investments and minimize your tax liability. Happy trading!