If you invested in cryptocurrency in 2018, you are probably starting to think about your tax implications. As well you should: as we’ve mentioned before, the IRS offers no leeway to cryptocurrency investors who don’t pay appropriate taxes.
However, there is a way to minimize your Crypto tax obligation on cryptocurrency, particularly considering the significant drop in the crypto market in 2018. If you decided to sell at a loss, you’ll be able to write off those losses against other or even future income—even if you bought the same token immediately after. That’s because when it comes to cryptocurrency, the wash sale rule does not apply.
What is the wash sale rule?
Let’s start by explaining this term as it relates to all investments. The wash sale rule (IRS Section 1091) comes into play when a taxpayer sells a stock at a loss in order to realize a capital gain, but then immediately (within 30 days) buys the same stock—or one that is “substantially identical”—back for a bargain price.
At that point, the wash sale rule kicks in, and the taxpayer is not allowed to claim the initial loss on their taxes. The reason, of course, is so that taxpayers don’t try to “game” the system and claim artificial losses by watching the stock of company X—which they’d bought at a peak—fall and then buying it back at the reduced price and claiming the tax benefit.
How does the wash sale rule affect crypto?
For tax purposes, the IRS treats cryptocurrency as property, rather than actual “currency,” which means that it is subject to capital gains taxes like other forms of property investments, such as stocks, bonds and real estate. That means that you would likely assume that the “wash rule” applies to cryptocurrency. But it appears that it does not.
That’s because even though it is considered “property,” Bitcoin and other cryptocurrencies are not categorized as a stock or security by the IRS, and those are the only two types of investments covered in the wash sale rule. That means that even though the IRS hasn’t expressly said that the wash sale rule doesn’t apply to cryptocurrencies, its guidance says to treat crypto as property. As of now, at least, it doesn’t trigger the IRS’ wash sale rule, which only applies to those two types of property investments.
Although it’s unclear why the wash rule doesn’t apply, it could be because most cryptocurrency traders are not buying and selling specifically for a Crypto tax advantage—they are making their investment decisions because of price swings in the currencies.
Could the wash rule ever apply to crypto?
In many ways cryptocurrency is still in its infancy, and therefore the IRS’ rules about taxes and cryptocurrency are just emerging…after all, it was only in 2018 that the agency made a public announcement about the importance of investors reporting their cryptocurrency gains on their taxes.
If the IRS should decide to revisit the wash rule and expand it to include cryptocurrencies as well as stocks and securities, then a cryptocurrency investor would need to make sure not to purchase the exact same type of crypto within 30 days of previously selling it at a loss. That doesn’t mean you would be exempt from any sort of virtual currency purchase—you’d just need to choose a different type.
However, for now, we feel confident in advising our clients that the wash rule doesn’t currently apply to cryptocurrency investors. Considering that accounting for cryptocurrency capital gains and losses is confusing enough as it is, hats off to the IRS for allowing the wash sale rule to be one tax event that cryptocurrency investors don’t have to consider in their trading activity.
However, while you might be getting a reprieve on the wash sale rule, all other tax laws do apply. If you’re not sure how much you might owe on your 2018 cryptocurrency taxes, check out ZenLedger’s free tax solution for help.