Because crypto can be volatile, using tax-loss harvesting to offset capital gains has been relatively easy for crypto traders to execute — mainly because these investors haven’t had to worry about the wash sale rule.
Under the current wash sale rule, investors cannot sell ordinary securities at a loss (such as stocks, bonds, exchange-traded funds), and then buy back the same or similar securities and still claim the loss to offset other capital gains. But crypto investors can.
That’s because, for now, the IRS does not classify cryptocurrency as a security; it is considered property. So crypto investors may therefore sell crypto that has fallen in value, lock in the loss, and then buy it back again immediately — a wash sale — while still being able to offset investment gains for a tax benefit.
This may change if legislation that’s pending ultimately passes Congress, so it’s wise to be informed about the wash sale rule and how it could affect cryptocurrency trading.
What Is the Wash Sale Rule?
The wash sale rule prevents investors from selling an investment loss just for the tax-loss harvesting benefits while essentially maintaining their position in the security. For instance, if an investor sells 100 shares of stock ABC at a loss on October 1 and then repurchases 100 shares of ABC on October 15, they would not be able to use the tax advantages from the losses from the sale on October 1.
A wash sale occurs when an investor sells a security at a capital loss, and then buys the same or “substantially identical” security within a 61-day window, either 30 days before or after the sale.
Investors often take advantage of investments that have declined in value, selling the securities at a capital loss to offset the capital gains tax they may owe on the profits of other investments they’ve sold.
Known as tax-loss harvesting, investors commonly use this strategy to minimize investment tax liability. And for years, crypto investors have been able to claim multiple losses — some of which can also offset up to $3,000 in personal income — to offset gains, without having to worry about the wash sale rule.
💡 Recommended: Crypto Tax Loss Harvesting Guide for 2022
Does the Wash Sale Rule Apply to Cryptocurrency?
While crypto transactions aren’t subject to the wash sale rule at the moment, excessive crypto wash sales could still cause investors issues with the IRS. This is because crypto wash sales may fall under the IRS’ Economic Substance Doctrine, which states that crypto wash sales must have economic substance — like altering your exposure to market risk — to be eligible for tax benefits.
Because the crypto market can be highly volatile, crypto transactions often have economic substance, so its likely investors could still claim the tax loss benefits even if they repurchased the same crypto shorting after selling.
Nonetheless, the wash sale rule is something that all investors need to be aware of when trading different types of cryptocurrency. By understanding the rule and how it applies to cryptocurrency, investors can ensure they are taking advantage of all the tax benefits available to them.
💡 Recommended: Crypto Tax Guide 2022: How to Report Crypto on Your Taxes
Up to $100 in bitcoin2 – just for you.
With 30 coins available, our app offers a secure way to trade crypto 24/7.
Example of Crypto Wash Sale
A crypto wash sale occurs when an investor sells a specific cryptocurrency at a loss but buys the same cryptocurrency 30 days before or after the sale date.
For example, suppose an investor buys $5,000 worth of a specific cryptocurrency. This crypto then falls in value by half, trading at $2,500. The investor can sell their position, incurring a $2,500 loss, but immediately buy back $2,500 worth of the crypto to maintain their position. The investor could claim $2,500 of capital losses on their taxes but still have a position in the crypto.
Crypto investors often use a wash sale to lock in a capital loss for tax benefits but still maintain a position in a specific crypto.
However, the IRS could still flag this strategy for tax loss harvesting. The IRS may disallow a wash sale if a taxpayer is in the same economic position after the transaction, as in the example above.
The best way to avoid issues with crypto wash sales is to wait to repurchase the specific crypto asset after the 30 days period; this way, the transaction no longer classifies as a wash sale.
Will the Wash Sale Rule for Crypto Change in the Future?
As noted above, the wash sale rule doesn’t currently apply to crypto, but that could change in the future.
The Biden administration tried to change how the wash sale rule applied to crypto as part of the Build Back Better legislation. If it had passed, this bill would have made crypto subject to the wash sale rule like stocks and other securities. However, this bill stalled in Congress.
Investors should be aware of the evolving nature of how tax rules apply to cryptocurrency since it is still a nascent asset class. There will likely be further regulation of cryptocurrency in the future, which could affect how the wash sale rule applies to crypto.
The Takeaway
The wash sale rule is a tax rule that says you can’t deduct a loss on the sale of an asset if you buy the same or similar asset within 30 days before or after the sale. The wash sale rule applies to stocks, bonds, and other securities, but does not usually apply to cryptocurrency.
Many crypto traders use wash sales as part of a tax-loss harvesting strategy to minimize tax burden while maintaining a position in their crypto holdings. However, the evolving tax rules surrounding crypto may limit this benefit in the future. Crypto traders need to stay up to these changes when it comes to managing a crypto portfolio and tax liability.
Interested in building your own crypto portfolio? When you open an account with SoFi Invest®, you can trade dozens of cryptocurrencies 24/7 from the convenience of SoFi’s secure mobile app.
Photo credit: iStock/kate_sept2004
SoFi Invest®
The information provided is not meant to provide investment or financial advice. Also, past performance is no guarantee of future results.
Investment decisions should be based on an individual’s specific financial needs, goals, and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA / SIPC . SoFi Invest refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below.
1) Automated Investing—The Automated Investing platform is owned by SoFi Wealth LLC, an SEC registered investment advisor (“Sofi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC, an affiliated SEC registered broker dealer and member FINRA/SIPC, (“Sofi Securities).
2) Active Investing—The Active Investing platform is owned by SoFi Securities LLC. Clearing and custody of all securities are provided by APEX Clearing Corporation.
3) Cryptocurrency is offered by SoFi Digital Assets, LLC, a FinCEN registered Money Service Business.
For additional disclosures related to the SoFi Invest platforms described above, including state licensure of Sofi Digital Assets, LLC, please visit www.sofi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform. Information related to lending products contained herein should not be construed as an offer or prequalification for any loan product offered by SoFi Bank, N.A.
Crypto: Bitcoin and other cryptocurrencies aren’t endorsed or guaranteed by any government, are volatile, and involve a high degree of risk. Consumer protection and securities laws don’t regulate cryptocurrencies to the same degree as traditional brokerage and investment products. Research and knowledge are essential prerequisites before engaging with any cryptocurrency. US regulators, including FINRA , the SEC , and the CFPB , have issued public advisories concerning digital asset risk. Cryptocurrency purchases should not be made with funds drawn from financial products including student loans, personal loans, mortgage refinancing, savings, retirement funds or traditional investments. Limitations apply to trading certain crypto assets and may not be available to residents of all states.
Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.
2Terms and conditions apply. Earn a bonus (as described below) when you open a new SoFi Digital Assets LLC account and buy at least $50 worth of any cryptocurrency within 7 days. The offer only applies to new crypto accounts, is limited to one per person, and expires on December 31, 2023. Once conditions are met and the account is opened, you will receive your bonus within 7 days. SoFi reserves the right to change or terminate the offer at any time without notice.
First Trade Amount
Bonus Payout
Low
High
$50
$99.99
$10
$100
$499.99
$15
$500
$4,999.99
$50
$5,000+
$100
SOIN1122033
