Calculating the Capital Gains and Losses
Capital gain or loss is the difference between the cost basis of your cryptocurrency and the value you received in exchange for your cryptocurrency when sold. This is reported on your federal income tax return in U.S. dollars. As a basic calculation, it’s important to think of calculating gains and losses as the following:
CAPITAL GAIN/LOSS = PROCEEDS (the amount of money you received from disposing the cryptocurrency) - COST BASIS (usually the cost to originally acquire the cryptocurrency)
If the proceeds exceed the cost basis, you experienced a capital gain on the cryptocurrency. If the cost basis exceeds the proceeds, you experienced a capital loss on the cryptocurrency.
For those who have purchased cryptocurrency at different times at different prices, determining the correct cost basis can be difficult. For example, if you bought 3 BTC but on different dates at different prices and have sold 1 BTC how do you decide which Bitcoin you sold?
The IRS FAQ on Virtual Currency Transactions states that the units are sold or disposed of in a chronological order beginning with the earlier or first unit acquired; that is on a first-in-first-out (FIFO) basis. If you can specifically identify the unit or units involved in the trade, then you can select which units are deemed to be sold.
Units of virtual currency can be specifically identified by a unique digital identifier such as a private key, public key, and address, or by records showing the transaction information for all units of a specific virtual currency, such as Bitcoin, held in a single account, wallet, or address.
This information must show:
- 1.The date and time each unit was acquired,
- 2.Your basis and the fair market value of each unit at the time it was acquired,
- 3.The date and time each unit was sold, exchanged, or otherwise disposed of, and
- 4.The fair market value of each unit when sold, exchanged, or disposed of, and the amount of money or the value of property received for each unit.(LINK)
There are several methods that might be used for specific identification, such as LIFO or HIFO. However, before using any of these methods please consult a tax professional to see if your transactions meet the requirements for specifical identification.