Crypto Tax Loss Harvesting: Here’s What You Need to Know
31 Mar, 2023 · 6 min read
Crypto tax loss harvesting can save you money on your crypto taxes. Does it sound too good to be true? If you’re looking to offset your capital gains for the year, crypto tax loss harvesting may be one of the best solutions.
We’ve explored the top 7 ways to legally reduce your crypto tax bill, and today we’re going into more details about crypto tax loss harvesting while showing a tax simulation (with numbers) on how much you can save.
Is crypto tax loss harvesting worth it?
Crypto tax loss harvesting consists of selling a crypto asset that has lost its value. How can something that lost value be worth something to you?
Well, it’s quite straightforward. If you are an active crypto trader, you’ll probably have hundreds of trades and many unrealized and realized capital gains. Amid years full of bull-runs like 2016 or 2020, many crypto traders are sitting on top of huge profits, which will lead to a very high crypto tax bill for those years.
At the same time, due to crypto’s volatile nature, some altcoins have explosive growth followed by 80-90% declines, leading investors who didn’t convert into stablecoins or FIAT to have a big loss.
What’s the solution?
If you have large capital gains from most of your trades, you can offset some of those gains and reduce your crypto tax bill by assessing a big loss in one particular trade.
With crypto tax-loss harvesting, you should select one coin that has lost a lot of value and that you think won’t go up anytime soon. As a result, you can realize that loss and offset some of your crypto gains.
What’s the downside of crypto tax loss harvesting?
There’s only one downside to crypto tax-loss harvesting. When you sell your coin at a loss, and you believe it could recover in the future, you’ll lose out on the potential of getting a long-term capital gains tax rate.
If you hold the coin, it recovers, and you sell it after 12 months of holding, you can get a lower capital gains tax rate. However, if you sell it to get the tax offset and later buy the same coins at a lower price, you’d lose the holding period you had before – it restarts. You need to be careful when using tax loss harvesting if you’re a long-term investor due to tax benefits across countries.
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Does the 30 day wash rule apply to crypto?
Crypto tax loss harvesting and wash sale rules sometimes come together in the conversation. A 30-day wash sale rule is when you buy back substantially the same stock within 30 days after selling a stock for a loss, making your loss suspended.
However, we believe the wash sale rule only applies to stock trades and not to crypto trading. Crypto tax loss harvesting is possible, but there’s a timing element that you need to consider.
When should I do crypto tax harvesting?
Usually, crypto tax loss harvesting is something you should evaluate at the end of each tax year. If you had a year where you already have more losses than gains, or you have very few gains, there’s no logical reason to do crypto tax-loss harvesting.
In those cases and due to crypto’s long-term return appreciation, you may be better off holding coins that suffered a big decline and wait for their recovery than to take a loss purely for tax purposes.
Nevertheless, if you have a large capital gain and the end of the year is close, you should look at your portfolio, sell the coins that are having a loss, especially if you believe there’s a very little chance of recovery and you don’t want to keep them anymore.
As a result, you’ll have more disposable capital to invest, and you’ll have a tax benefit, successfully reducing your crypto tax bill. If you believe the coin will bounce back and it is a good investment you want to have, you can buy the coin back before its price goes up.
Is there a limit to crypto tax loss harvesting?
No, there is no limit to how much tax loss you can harvest. However, you can only deduct $3,000 net capital loss each year. This means if you have a large number of losses after offsetting your gains, you will need to carry over your remaining losses in excess of $3,000 to the following year. In other words, you cannot get a tax benefit in the current year for any losses that you can use to offset all your gains for the year plus $3,000.
As mentioned above, one downside of tax loss harvesting is you will lose your holding period and possibly the chance of enjoying a favorable long-term capital gain tax rate. Therefore, you need to have a good idea about the amount of losses that you need to harvest.
CoinTracking can help you calculate and evaluate your gain & loss situation and make an educated decision about tax loss harvesting.
How to report crypto losses from harvesting?
In the US, crypto to crypto trades and crypto to FIAT trades are taxable events. Each time you sell crypto for another crypto, including stablecoins, you’ll need to recognize a capital gain or loss. If you sell crypto for FIAT, you’ll also have to report a capital gain or loss.
During the year, you should keep track of all your trades as you’ll have to report each one in your tax return. You’ll need to report all your crypto trades (losses and gains) on Form 8949 and Schedule D of your Form 1040. Check this guide on how to report crypto on your taxes.
How much can you save with crypto tax loss harvesting? A simulation.
1. Marie buys Bitcoin and token X.
In January 2020, Marie bought 1 Bitcoin at $9,000. She knows Bitcoin is the leading digital asset and wants to invest in crypto. However, in May, she hears about a new revolutionary coin – token X – and buys it for $5,000 because the project seemed to have large upside potential.
2. Marie has a Bitcoin unrealized gain and an unrealized loss.
In March 2021, Bitcoin reached an all-time high at $64K, and Marie decided to sell. She also realized that her token X position lost 90% of its value due to a rug pull, and it hasn’t recovered.
Marie didn’t expect such a high return on her Bitcoin holding, and she’s considering ways to reduce her tax bill. Enter crypto tax loss harvesting. Marie decides to sell her token X holding for $500.
3. Marie does crypto tax loss harvesting and saves on taxes.
Marie has a capital gain of $55K ($64-$9K) from her Bitcoin trade and a $4,500 loss ($500-$5,000) from the token X sale. She will benefit from a long-term capital gains tax rate due to holding Bitcoin for more than 12 months and a $4,500 offset from cashing out her token X position. Marie will have a total gain for the year of $50,500 ($55K-$4.5K), which can lead to a tax bill of $10,100, assuming a long-term tax rate of 20%*.
*Long-term capital gains tax rates can range from 0% to 20% in the US, depending on other factors (e.g., filing status). The 20% rate used is for simulation purposes only. Your final tax rate can change.
How can you reduce your crypto taxes?
Crypto tax loss harvesting is one of the strategies if you’re looking to reduce your crypto taxes. Moreover, you should consider the benefits of long-term holding, the impact of crypto loans on tax benefits, and the offset value in taxes when donating crypto.
If you’re looking for more radical options, you can always move to another state (in the US) or find a crypto-tax-friendly country. CoinTracking can help you be tax compliant in any country and help you find the crypto regulation and the best crypto tax firms worldwide to guide you.
Learn how CoinTracking tracks and your capital losses automatically:
CoinTracking help with more than tax loss harvesting:
- Import (API & CSV) your trades from 110+ exchanges/wallets.
- Support your DeFi trades (e.g., Uniswap/1inch).
- Import your Binance Chain, Binance Smart Chain, and MATIC transactions.
- 25+ advanced reports, including which coins offer you a tax-free rate.
- Automatic capital Gains, according to 12 accounting methods (e.g., FIFO, LIFO, HMRC, ACB), accepted worldwide.
- Generate complete Tax Reports in your country.
If you need personalized help reviewing your trades or preparing your US tax returns, check out our CoinTracking Full Service. A team of crypto tax experts led by Sharon Yip, who helped us with this article, provides assistance for CT Full Service.
This post is part of the Crypto Taxes AMA series (US). Follow our weekly AMAs on Twitter where our expert CPA, Sharon Yip answers your crypto tax questions. You can download 25+ AMA crypto tax reports for free.
Disclaimer: All the information provided above is for informational purposes only and should not be considered as professional investment, legal, or tax advice. You should conduct your own research or consult with a professional financial advisor when investing.