Recent turbulence in the cryptocurrency markets is creating tax saving opportunities for long term investors. Market dips enable cryptocurrency investors to sell a cryptocurrency position and then immediately purchase the same position just sold, creating tax losses that leave the IRS with the Bitcoin blues. The strategy works because cryptocurrency is not subject to the ‘wash sale’ rules that prevent generating tax benefits with paper losses derived from cycling investments.
The ‘wash sale’ rules are a provision in the Internal Revenue Code that prevents taxpayers from deducting losses generated by the sale of stock or securities if the taxpayer repurchases the same stock or security within thirty days of the sale – either before or after. The ‘wash sale’ rules do not apply to ‘property.’ In Notice 2014-21, the IRS first ruled that cryptocurrencies are ‘property.’ As property, and not stock or securities, the ‘wash-sale’ rules do not apply. The distinction is significant.
Tax savvy investors can sell cryptocurrency while the market is down and immediately repurchase the same cryptocurrency. The investor has not altered the economic substance of his or her underlying investment but has generated a valuable tax loss. In a volatile market where sharp price declines are commonplace, the strategy can be repeated as often as price fluctuations allow. Repeated cycling of cryptocurrency investments in this manner enables taxpayers to generate substantial losses that can be used to offset other capital gains or carried forward to future tax years.
Cryptocurrency remains a nascent market trading on exchanges offering varying levels of transaction reporting sophistication. Investors engaging in tax loss harvesting using cryptocurrency must maintain detailed records to support their paper losses in the event of audit. Practitioners representing cryptocurrency investors should discuss recordkeeping with their clients. Barring changes to the ‘wash sale’ rules or the IRS’ classification of cryptocurrency, savvy investors will continue to ride the wave of market volatility to a lower tax bill.
The tax attorneys at McLaughlinQuinn LLC regularly counsel clients on tax planning for cryptocurrency. For more information on this newsletter, contact Cory J. Bilodeau, Esq., LL.M., Tax Planning Partner, at (401) 655-2203 or via email at
