How is crypto taxed? (A General Overview)

Taxation Principles in Cryptocurrency

1. Cryptocurrency is treated as property by major tax authorities including the IRS in the United States and HMRC in the United Kingdom.

2. Every time a crypto asset is sold, traded, or used to purchase goods or services, a taxable event occurs.

3. Gains or losses are calculated by subtracting the cost basis — typically the purchase price plus associated fees — from the fair market value at the time of disposal.

4. Holding periods determine whether gains are classified as short-term or long-term, directly impacting applicable tax rates.

5. Mining, staking, and airdrops generate ordinary income equal to the asset’s market value on the date of receipt.

Reporting Requirements Across Jurisdictions

1. In the U.S., taxpayers must answer “Yes” to the virtual currency question on Form 1040 if they engaged in any crypto-related transaction during the year.

2. Capital gains and losses must be reported on Form 8949 and summarized on Schedule D.

3. Exchanges operating under U.S. jurisdiction are required to issue Form 1099-B for certain reportable activities, though coverage remains inconsistent across platforms.

4. The UK mandates reporting via Self Assessment, with capital gains subject to the annual exemption and taxed at either 10% or 20% depending on total income.

5. Germany exempts gains on assets held over one year if disposed of less than once per month, provided the total profit stays below €600.

Common Taxable Events

1. Selling BTC for fiat currency triggers a capital gain or loss based on the difference between acquisition cost and sale proceeds.

2. Swapping ETH for SOL on a decentralized exchange constitutes a taxable barter transaction, not a like-kind exchange.

3. Paying for coffee with USDC creates two events: disposition of USDC (taxable) and consumption of goods (non-taxable).

4. Receiving interest rewards from a DeFi lending protocol generates ordinary income at the time tokens are credited to the wallet.

5. Hard fork distributions such as the Bitcoin Cash airdrop are taxed as ordinary income equal to the fair market value on distribution date.

Cost Basis Methods and Their Implications

1. FIFO (First-In, First-Out) assumes the oldest acquired units are sold first, often resulting in higher gains in bull markets.

2. LIFO (Last-In, First-Out) uses the most recently acquired units, potentially lowering gains during rapid price appreciation.

3. Specific Identification allows taxpayers to choose exact units sold, requiring robust recordkeeping and timestamped wallet logs.

4. Average Cost Basis is generally disallowed for crypto by the IRS, unlike mutual funds, due to classification as property.

5. Wallet transfers between self-controlled addresses do not trigger taxation but must be tracked to preserve accurate acquisition dates and values.

Frequently Asked Questions

Q: Do I owe taxes if I only bought crypto and held it? No. Acquisition alone does not create a taxable event. Taxes arise only upon disposal or income generation.

Q: What if I lost access to my private keys or my wallet was hacked? The IRS does not currently allow theft or loss deductions for crypto unless filed as a declared casualty loss under very narrow conditions post-2017 TCJA.

Q: Are NFT transactions taxed differently than fungible tokens? No. NFTs are treated as property, and sales, trades, or royalties follow the same capital gains and ordinary income rules as other digital assets.

Q: Does using a hardware wallet affect my tax obligations? No. Storage method has no bearing on tax treatment. What matters is the nature and timing of disposals and receipts.