Buzz
One of the major drawbacks of cryptocurrency is the volatile price fluctuations that can wipe out your investment, but there’s a silver lining: tax loss harvesting. Due to an interesting quirk in how the IRS treats crypto, you can strategically sell your crypto at a loss, buy it back before the price bounces back, and use the loss to offset capital gains taxes on your other profitable investments. Here's a breakdown of how it works.
Crypto is classified as property—different from stocks or bonds
Because the IRS treats cryptocurrency as property, the regulations around selling it differ. One notable distinction is that wash sale rules do not apply to crypto, meaning you can sell and repurchase it without having to wait 30 days, unlike stocks.
This is where crypto investors gain an advantage—without the 30-day waiting period, they have more freedom to sell their crypto at a loss and repurchase it before the price rebounds. The benefit is that the loss from the sale of crypto can be used to offset capital gains taxes on other investments, a process called tax loss harvesting. (Capital gains taxes are incurred whenever you cash out an investment and can be quite substantial—up to 37% if you sell within a year). By buying the crypto back before the price increases, you get the best of both worlds: you can write off the loss and still profit if the price surges in the future.
For instance, a $50,000 loss from crypto could offset $50,000 in gains from selling stocks, meaning you wouldn't owe taxes on those stock gains. Another perk is that tax loss harvesting can be carried over into future tax years if not fully utilized in the current year.
Of course, there are risks
While crypto loss harvesting is generally accepted by tax professionals, it resides in a grey area, as the IRS hasn't provided a clear ruling on the wash sales exemption for crypto. Given the IRS's increased scrutiny of crypto, the wash sale rule may change soon. Be sure to verify that the rules remain the same before making any transactions for tax harvesting purposes.
Additionally, as CFP Jeffrey Levine explains to CNBC, same-day crypto sales carry some risk, as the IRS might still classify them as “sham” transactions without “economic substance.” Therefore, it's advisable to space out the sale and repurchase slightly. “A day is more than sufficient,” Levine states, “I’d feel comfortable defending that to the IRS.”
Additionally, there’s always the risk that you won’t be able to repurchase cryptocurrency at the same price you initially bought it, even if it's just a day after the sale. Crypto is volatile, having seen 10% price swings in a single day. Finally, because tax loss harvesting can be complex, it's essential to maintain accurate records of your transactions and strongly consider seeking help from a tax professional, as they’ll be your best protection against any IRS issues.
This article was updated after publication to clarify the sentence “For example, a $50,000 crypto loss would offset $50,000 worth of gains from selling stocks, which means you wouldn’t have to pay taxes on those realized stock gains.”
