The crypto market has dipped by 46% from May’s all-time high. Nevertheless, clever investors are excited about the decrease in prices. That’s because according to the IRS, cryptocurrencies like bitcoin are termed property. Consequently, losses on crypto assets are treated differently as opposed to losses on mutual funds and stocks. Wash sale rules don’t apply to crypto-assets. This means investors can sell their Bitcoin and buy it back right away. In contrast, they’d have to wait 30 days before they could buy back stock. While it’s a slight nuance in the tax code, it’s a big deal for US crypto holders. This benefit allows for tax-loss harvesting. Savvy investors sell their bitcoin at a loss and then buy it back at lower prices. The game is to look as poor as possible, so the more losses investors rack up, the better it is for them in the long run.
Investors can harvest their unlimited losses and take them forward. There’s no time limit as to how long they can carry them forward, either. As wash sale rules don’t apply, investors can harvest crypto losses extensively as opposed to stocks, because there is no waiting period. Investors can do this just about every week, every month, or every quarter. Based on their level of sophistication and planning, they can steadily collect more of these losses. By accumulating these losses, investors eventually offset future gains.
When investors ultimately go to liquidate their crypto stake, they can rely on their accumulated losses to reduce how much they owe the IRS using capital gains tax. Quickly buying back the Bitcoin is a crucial part of the equation. If investors time their moves correctly, buying the dip allows them to take the ride back up in the event that the cryptocurrency’s price rebounds.
Here’s an example. Suppose a taxpayer purchases a bitcoin for $10,000 then sells it off for $50,000. In that case, they face having to pay capital gains on $40,000, which is taxable profit. However, if the same taxpayer already harvested $40,000 worth of losses on previous cryptocurrency transactions, they can offset what they owe the IRS. This is a simplified example, but it paints a clear picture of how the practice works.
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More and more Bitcoin holders are catching on with this strategy. However, it’s crucial that investors maintain thorough bookkeeping. If they don’t have proper records of transactions, they can’t prove their calculations to the IRS. If you plan to offset more taxes, you need to harvest as many losses. This means keeping a complete record of where you sold Bitcoin at a loss so you can substantiate your claims later on.