The IRS says I need to report my cryptocurrency taxes…, but I had net taxable losses? TaxBit has frequently heard this sentiment from its users. Although losing money on your crypto trades is a major bummer, TaxBit can help you receive some relief in the form of an increased tax refund. With wild price swings and volatile coins, most crypto traders lived through the unfortunate reality of losing money on their trades over the course of at least one taxable year. Fortunately, the IRS allows taxpayers to claim deductions on their cryptocurrency capital losses. TaxBit’s cryptocurrency tax experts stand ready to help you claim the cryptocurrency capital loss deduction now, as well as carry excess losses into the future to offset future years’ gains.
1) Report Losses with TaxBit on your IRS 8949 Tax Form
In 2014, the IRS issued Notice 2014-21, clarifying that virtual currency is treated as property for tax purposes. This means that cryptocurrency is taxed as a capital asset and every taxable event must be reported on an IRS 8949 cryptocurrency tax form, similar to the sale of stock. 26 U.S. Code § 1211 of the Internal Revenue Code provides relief in the form of a deduction for losses on capital assets.
TaxBit produces the required IRS 8949 cryptocurrency tax form, which will be transposed onto a taxpayer’s Schedule “D” tax form. Schedule D (Form 1040) is used to report the sale or exchange of capital assets that are not held for business or profit. Notably, ordinary income will not be reported on Schedule D. Mining income will be added as ordinary income, similar to reporting employment income from a Form W-2.
2) Claim the Capital Loss Deduction on Crypto Losses
Specifically, taxpayers may deduct $3,000 in capital losses a year ($1,500 if you are married and filing a separate tax return). Claiming your cryptocurrency capital losses can result in a higher refund on your tax return through this deduction. If a taxpayer has more than $3,000 in net capital losses in a taxable year then the excess losses can be carried forward into future tax years. A taxpayer may then use the losses to offset capital gains in a future tax year, or can claim the capital loss deduction again.
Assume a taxpayer (let's call her Jane) ended the 2017 tax year with $10,000 in net capital losses and then never traded cryptocurrency again. Jane can claim the $3,000 deduction in 2017, claim the $3,000 deduction again in 2018, claim the $3,000 deduction again in 2019, and also claim a deduction of $1,000 in 2020 for the remainder of the capital loss. This is allowed by the IRS and is called “carrying forward capital losses.”
Alternatively, assume the same set of circumstances, however, in 2018 Jane had net capital gains of $7,000 on her cryptocurrency transactions. Jane can claim the cryptocurrency capital loss deduction in 2017 for $3,000 and then can carry her excess losses of $7,000 forward into 2018. Jane’s excess losses that are carried forward can offset her 2018 gains dollar for dollar. In this circumstance, Jane would effectively owe $0 in capital gains taxes because she carried forward her excess 2017 losses.
3) You Are Required to Claim Your Losses
“Failing to report your losses and gains could have big consequences” said Kevin F. Sweeny, a former federal tax prosecutor. Because many exchanges have failed to issue 1099-B tax forms that report cost basis information, the IRS often times does not know whether a taxpayer had net taxable gains or losses for the year. The IRS is therefore auditing any taxpayers who traded cryptocurrency, but failed to file an IRS 8949 capital gain/loss report.
The IRS has been clear in its intent to crackdown on unreported crypto gains/losses and is going after non-compliant taxpayers. The IRS has now created a dedicated virtual currency team to trace the blockchain and find non-compliant taxpayers. The IRS searches the blockchain using technologies developed by companies such as Chainalysis to identify taxpayers who traded cryptocurrency. If the taxpayers failed to file an IRS 8949 then they are an easy target for an IRS audit. You should therefore file your cryptocurrency taxes regardless of whether you had gains or losses in order to avoid an IRS audit.
4) TaxBit’s Audit Trail Substantiates your Losses
As discussed above, the lowest hanging fruit for an audit is if a taxpayer has not filed an IRS 8949 cryptocurrency tax form at all. It is therefore imperative to disclose your capital gains/losses on your crypto trades. However, if you claim a substantial amount of losses then the IRS may want to investigate to verify that everything was reported properly.
Leading CPA firms and cryptocurrency tax attorneys are amazed at the level of detail TaxBit provides through its audit trail. A taxpayer, CPA, or IRS auditor can filter by any transaction such as Bitcoin, and then drill-down to see exactly how the cost-basis and subsequent gains/losses were calculated.
Trust the experts! TaxBit is here to help you with your crypto tax prep to maximize your tax savings.
Written By Cryptocurrency Tax Attorney Justin Woodward