How to Report Profits When You Sell Crypto

The Internal Revenue Service (IRS) treats cryptocurrency as property for federal income tax purposes, similar to stocks or other investments. This classification means that various transactions involving digital assets can create a tax liability. When you sell, trade, or otherwise dispose of cryptocurrency, any resulting gains become subject to taxation. Understanding these obligations ensures compliance with tax regulations.

Taxable Events and Capital Gains

When engaging with cryptocurrency, certain actions are considered “taxable events” by the IRS, meaning they trigger a tax obligation. The most common taxable event is selling cryptocurrency for fiat currency, such as U.S. dollars. This action realizes any gain or loss you have incurred since acquiring the asset.

Another taxable event occurs when you trade one cryptocurrency for another, for instance, exchanging Bitcoin for Ethereum. The IRS treats this as if you sold the first cryptocurrency for its fair market value in U.S. dollars and then immediately used those dollars to purchase the second cryptocurrency. Similarly, using cryptocurrency to purchase goods or services also constitutes a taxable event.

The taxation of these events falls under capital gains rules, which distinguish between short-term and long-term gains based on the asset’s holding period. This distinction is crucial because it directly impacts the applicable tax rate on your profits. Understanding your holding period is a primary step in determining your tax liability.

Short-term capital gains apply to cryptocurrency held for one year or less before a taxable event occurs. These gains are taxed at your ordinary income tax rates, which can range from 10% to 37%, depending on your overall income level and filing status.

Long-term capital gains, conversely, apply to cryptocurrency held for more than one year. These gains are typically taxed at more favorable rates, which are 0%, 15%, or 20%, depending on your taxable income. Holding assets for longer periods can therefore result in a significantly lower tax burden on your profits compared to short-term gains. The holding period begins on the day after you acquire the cryptocurrency and ends on the day you sell or dispose of it.

If you incur a loss from a taxable event, these losses can generally be used to offset capital gains. Capital losses can offset capital gains in full, and if your capital losses exceed your capital gains, you can deduct up to $3,000 of the net capital loss against your ordinary income in a given tax year. Any remaining net capital loss exceeding this amount can be carried forward to offset income in future tax years.

Purchasing cryptocurrency with U.S. dollars and holding it is not a taxable event. Transferring cryptocurrency between your own wallets or accounts is also not a taxable event. However, earning cryptocurrency through activities like mining, staking, or receiving airdrops is considered ordinary income and is taxed at its fair market value when received.

Determining Your Crypto Cost Basis

Understanding “cost basis” is fundamental to accurately reporting your cryptocurrency profits and losses. The cost basis represents the original value of an asset for tax purposes, typically the amount you paid to acquire it, including any fees, commissions, or other direct costs incurred during the purchase. When you sell or dispose of cryptocurrency, your taxable gain or loss is calculated as the difference between the sale proceeds and this cost basis.

Calculating cost basis can become complex when you have made multiple purchases of the same cryptocurrency at different prices. To address this, various methods are available for identifying which specific units of cryptocurrency are considered sold for tax purposes. The First-In, First-Out (FIFO) method assumes that the first cryptocurrency units you acquired are the first ones you sell.

Under FIFO, you match the cryptocurrency sold with the earliest purchase, using that purchase’s cost to calculate the gain or loss. This method is often the default if you do not specify otherwise.

Another method is Last-In, First-Out (LIFO), which assumes that the most recently acquired cryptocurrency units are the first ones you sell. While some crypto tax calculators may offer LIFO, the IRS generally does not support LIFO for cryptocurrency for U.S. taxpayers.

The Specific Identification method allows you to choose which specific units of cryptocurrency you are selling. This method requires meticulous record-keeping, as you must be able to identify the exact purchase date and cost of the units being sold. Specific Identification offers the most flexibility for tax optimization because you can strategically choose to sell units that result in either a lower capital gain or a higher capital loss, depending on your individual tax planning goals.

The consistency of your chosen cost basis method is important for tax reporting. Beginning January 1, 2025, U.S. taxpayers are required to adopt a “per wallet” or “per account” cost basis method, meaning you must match asset sales with the cost basis from purchases or acquisitions within the same wallet or account. Furthermore, starting January 1, 2026, FIFO is slated to become the mandatory cost basis method for all crypto transactions.

Essential Record Keeping for Crypto

Maintaining thorough and accurate records of all your cryptocurrency transactions is fundamental for tax compliance. These records serve as the primary evidence for calculating your cost basis, determining capital gains or losses, and supporting your reported figures in the event of an inquiry from tax authorities. Without proper documentation, it can be challenging to accurately prepare your tax return and demonstrate compliance with IRS regulations.

You should keep detailed records for every cryptocurrency transaction, including purchases, sales, and exchanges. For each acquisition, document the date of purchase, the number of units acquired, the total cost in U.S. dollars, and any associated fees or commissions paid. For dispositions, record the date of the sale, the number of units sold, the proceeds received in U.S. dollars, and any fees incurred. These specific details are necessary for computing the gain or loss on each transaction.

For crypto-to-crypto trades, your records should reflect both sides of the transaction. This includes documenting the fair market value in U.S. dollars of the cryptocurrency being disposed of at the time of the trade, as well as the cost basis of the newly acquired cryptocurrency. If you use cryptocurrency to purchase goods or services, retain documentation of the item purchased, the date, and the fair market value of the cryptocurrency used at the time of the transaction.

Beyond individual transactions, it is also beneficial to keep records of your wallet addresses, exchange account statements, and any other relevant activity that impacts your cryptocurrency holdings. This comprehensive approach ensures you have a complete audit trail for your digital assets. It is also advisable to regularly export your transaction history from exchanges and securely back up this data, as exchanges can experience issues or even shut down, making historical data inaccessible.

While some individuals opt for personal spreadsheets to track their transactions, using specialized crypto tax software can automate much of this process by integrating with exchanges and wallets. These tools can help categorize transactions and generate reports, though it is still important to verify the accuracy of the data. Regardless of the method used, the goal is to have verifiable data that clearly shows the flow of your cryptocurrency and its corresponding U.S. dollar value at the time of each relevant event.

Reporting Crypto Transactions to Tax Authorities

Once you have meticulously tracked your cryptocurrency transactions and calculated your gains and losses, the next step involves reporting these figures on your U.S. federal income tax return. The primary forms used for this purpose are IRS Form 8949, Sales and Other Dispositions of Capital Assets, and Schedule D, Capital Gains and Losses. These forms are specifically designed to capture information about the sale or exchange of capital assets, including cryptocurrency.

Form 8949 is where you list the details of each individual cryptocurrency sale or disposition. For each transaction, you will need to provide a description of the property, typically the type of cryptocurrency, the date you acquired it, the date you sold it, the gross proceeds you received from the sale, your calculated cost basis, and the resulting gain or loss. The form categorizes transactions into short-term and long-term based on the holding period, requiring separate sections for each.

For taxpayers with a high volume of transactions, the IRS may allow for the aggregation of certain similar transactions on Form 8949. If a broker reports your transactions to the IRS on Form 1099-B (or the new Form 1099-DA, which brokers are required to issue starting in 2025), and the cost basis was reported to the IRS, you may be able to report summary totals for those transactions. However, if the cost basis was not reported or if you are using specific identification for tax optimization, individual listing of each transaction on Form 8949 is typically required.

After completing Form 8949, the totals for your short-term and long-term gains and losses are then carried over to Schedule D. Schedule D aggregates all your capital gains and losses from various sources, including cryptocurrency, stocks, and other property. This form calculates your net short-term capital gain or loss and your net long-term capital gain or loss, which determines your overall capital gain or loss for the tax year.

The net capital gains or losses from Schedule D then flow to your main income tax return, Form 1040. A net capital gain increases your taxable income, subject to the applicable capital gains tax rates. A net capital loss, on the other hand, can be used to offset capital gains and may also be used to offset up to $3,000 of ordinary income in a given tax year, with any remaining loss carried forward to future tax years. It is important to remember that even if you do not receive a Form 1099 from an exchange, you are still obligated to report all taxable cryptocurrency transactions.

Ultimately, these completed forms are submitted as part of your annual income tax return. Many taxpayers use tax preparation software, which can assist in guiding them through entering the transaction data and automatically populating Form 8949 and Schedule D. Alternatively, these forms can be filled out manually and attached to a paper tax return, ensuring that all taxable cryptocurrency activities are properly accounted for and reported to the tax authorities.