HIFO, short for highest in, first out, is a tax accounting method that could help some cryptocurrency investors this tax season. Bitcoin is currently down from its all-time high in November, so if you took a loss, this tax loophole could help you save.
Unlike stocks and mutual funds, the IRS treats cryptocurrencies like property. This means that you are logging a taxable event any time you exchange, spend, or sell your coins. Therefore, the difference between how much you paid for your crypto vs. the market value when you sold it can trigger capital gains taxes.
How HIFO Accounting Method Can Be Used to Minimize Crypto Taxes
Under HIFO rules, you can choose the particular coin you are selling when you sell your cryptocurrency. This means that a crypto investor can pick out the most expensive bitcoin they bought and use that amount to determine their tax obligation. The more you paid for your crypto, the less tax you will owe on your sale.
Alternatively, under FIFO (first in, first out) rules, you are selling the earliest purchased coin you have when you sell your crypto. Therefore if you bought your bitcoins a few years ago when prices were lower, you would have a larger capital gains tax bill waiting for you.
The key to taking advantage of the HIFO method is tedious, thorough bookkeeping. You need to keep track of every crypto transaction you make with each coin you own—when you purchased it, how much you purchased it for, when you sold it, and how much you sold it for. These are all essential records to keep, as calculations to the IRS can’t be supported without it.
There’s also the wash sale rule, which can help investors benefit from recent losses. You can read more about that here.
Regulators may crack down on this “tax loophole” in the future, but it’s unlikely that any rules would become retroactive. If you are planning to use this tax strategy, we encourage you to work with a firm like MGA who can help you make informed decisions, especially as many of the rules are not clearly defined.
Read more of our cryptocurrency articles, like how the IRS is cracking down on cryptocurrency compliance.
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