Trying to report your self-custodial wallet transactions on your tax return can be a headache if you’re not careful.
This guide will break down the fundamentals of how cryptocurrency is taxed. We’ll also share three tips for self-custodial wallet users that can help you save money and hours of time and effort during tax season.
How Is Cryptocurrency Taxed?
In the United States and other countries, cryptocurrency is subject to capital gains and ordinary income tax.
1. Capital gains tax: When you dispose of cryptocurrency, you’ll incur a capital gain or loss depending on how the price of your crypto has changed since you originally received it. Examples of disposals include selling your crypto or trading your crypto for another crypto.
Here’s an example of cryptocurrency disposal.
Kyle buys $10,000 of BTC. Months later, Kyle sells $15,000 of BTC. Kyle incurs $5,000 of capital gain.
2. Ordinary income tax: When you earn cryptocurrency income, you’ll recognize ordinary income based on the fair market value of your crypto at the time of receipt. Examples of income include staking, mining, and airdrop rewards.
Here’s an example of a cryptocurrency income event.
Sara earns $1,000 of ETH through staking. Sara recognizes $1,000 of ordinary income.
Is Holding Cryptocurrency in My Self-Custodied Wallet a Taxable Event?
Your transactions are subject to capital gains tax when you dispose of your cryptocurrency — or in other words when the ownership of your cryptocurrency changes.
Holding cryptocurrency in a self-custodial wallet and transferring cryptocurrency between wallets you own are not taxable. In both cases, the ownership of your crypto does not change, so there is no taxable disposal.
Do I Need to Report My Cryptocurrency to the IRS?
Many investors feel there’s no need to report their cryptocurrency to the IRS since cryptocurrency transactions are pseudo-anonymous. This is not true.
It’s important to remember that transactions on blockchains like Bitcoin and Ethereum are publicly visible and permanent. In the past, the IRS has worked with contractors like Chainalysis to analyze the blockchain and crack down on tax fraud.
3 Tips for Tax Season
Now that we’ve covered the basics of taxing cryptocurrency, let’s go through three tax tips for non-custodial wallet owners.
1. Keep Careful Records of Your Wallet-To-Wallet Transfers
It’s important to keep careful records of your cryptocurrency transactions, especially if you’ve transferred your crypto between different wallets and exchanges. While wallet-to-wallet transfers are not considered taxable, keeping records can help you calculate capital gains and losses in the case of future disposal.
Let’s look at an example to understand better why you should keep records.
David buys $10,000 of BTC on Exchange A. David transfers his crypto to his Guarda wallet. Months later, David sells his BTC for $15,000 on Exchange B.
In this case, David should have $5,000 of capital gain.
However, Exchange B has no records of David’s original cost basis — his original cost for acquiring his crypto. Suppose David hasn’t kept records of his original purchase. In that case, he may need to recognize his entire $15,000 sale as a capital gain. This would leave David with a much larger tax bill than he otherwise would have incurred.
2. Track All of Your Cryptocurrency Transactions
It’s not enough to keep track of your transactions on your self-custodial wallet. To accurately report your taxes, you’ll need to keep detailed records of your cryptocurrency transactions — whether they’re with centralized exchanges, non-custodial wallets, or decentralized protocols.
To accurately report your taxes, it’s important to keep track of the following for each disposal event:
- A description of the crypto-asset you sold
- The date you originally acquired your crypto-asset
- The date you sold or disposed of the crypto-asset
- Proceeds from the sale
- Your cost basis for purchasing the crypto-asset
- Your gain or loss
If you’ve earned cryptocurrency income during the year, you should keep track of the fair market value of your crypto at the time of receipt.
3. Claim Cryptocurrency Losses
Many investors believe there’s no point in reporting cryptocurrency on their tax returns unless they’ve made gains. However, there’s a silver lining to reporting crypto losses: tax savings!
Cryptocurrency losses can offset your capital gains from crypto, stocks, and other assets and up to $3,000 of ordinary income. If you have losses above this amount, you can roll forward your loss to offset capital gains in future tax years.
How to Report Your Cryptocurrency on Your Tax Return
Once you’ve collected records of your cryptocurrency income and capital gains, you can report your transactions on your tax return.
If you’re in the U.S., you should report your capital gains and losses on Form 8949. Once you’ve completed the form, report the gains and losses on Schedule D.
Individual investors should report their cryptocurrency income on Form 1040 Schedule 1.
How Crypto Tax Software Can Help
Trying to report your cryptocurrency transactions manually can take serious time and effort. Luckily, there’s an easier way.
With CoinLedger, you can automatically import your transactions from your exchanges and wallets of your choice. Once you’re done, you can generate complete crypto tax reports with a button!
Guarda has teamed up with CoinLedger to help take the stress out of your tax season, and you can save 10% on your 2022 crypto tax report!