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Some cryptoassets operate by consensus amongst that cryptoasset’s community. When a significant part of the community want to do something different they may create a ‘fork’ in the blockchain. There are two types of forks, a soft fork and a hard fork.
A Soft Fork updates the protocol and is intended to be adopted by all.
A Hard Fork is different and can result in new tokens coming into existence. Before the fork occurs there is a single distributed ledger. Usually, at the point of the hard fork, a second branch (and therefore a new cryptoasset) is created.
The distributed ledger for the original and the new cryptoassets have a shared history up to the fork. If an individual held tokens of the cryptoasset on the original distributed ledger they will, usually, hold an equal number of tokens on both distributed ledgers after the fork.
The value of the new tokens is derived from the original tokens already held by the individual.
If an individual holds their tokens through an exchange, the exchange will make a choice whether to recognise the new tokens created by the fork.
In 2019, the IRS issued guidance that crypto received as a result of an airdrop or a hard fork, is treated as ordinary income. However, any forks or airdrops that occurred before 2019 are still treated this way. The IRS guidance was simply clarification of already existing code.
Soft forks do not create new tokens and as such to not change the tax position.