The tax documents you receive at the end of the year from your cryptocurrency exchange can be extremely misleading. Cryptocurrency investors need to report their capital gains and losses as well as any crypto earned as income to stay compliant with tax reporting requirements — here in the U.S. and in most countries around the world. Because cryptocurrency exchanges can’t report on the transactions that occur outside their exchange, their tax reports won’t be accurate if you use any exchanges, wallets or other crypto services outside the one sending you those documents.
All major exchanges face this reporting challenge. This tax reporting problem stems from one of cryptocurrency’s core features: transferability.
Sending Crypto From Wallet To Wallet
Being able to send crypto from one wallet to another without the need of a third-party validator is one of the greatest advancements that crypto brings. It allows for a true peer-to-peer mechanism for value transfer. I can send Bitcoin that I mined to a cold wallet for safekeeping. Later on, I can send it to my exchange of choice to sell or trade for different assets. Or I could send it to a friend’s wallet. Transfers in and out of exchanges and from one wallet to another happen all the time.
These transfers make it difficult for cryptocurrency exchanges to know the cost basis of your holdings. The term “cost basis” refers to the amount you paid or spent to acquire your crypto. If I purchase 0.1 Bitcoin for $500 on Gemini and then send it over to Kraken, Kraken has no way of knowing that the 0.1 Bitcoin that appeared in my Kraken wallet cost me $500 to obtain. Kraken does not know my cost basis. This information is essential for calculating your capital gains and losses, and doing your taxes.
Real-World Example
Let’s use Coinbase as an example, since it has such a large presence in the U.S. Coinbase issues a number of different reports to qualifying users: 1099-K, 1099-MISC and a complete Transaction History Report. As the co-founder and CEO of cryptocurrency-focused tax software, I deal with these forms on a daily basis. Each of them is restricted by the data Coinbase does and does not have, specifically cost basis data.
1099-K reports on your gross proceeds from Coinbase. To receive one, you must be a Pro or Prime user and have more than 200 transactions with a total value of $20,000 or more (or meet your state’s applicable reporting level). The form does not detail your gains, losses or the cost basis of your holdings. As a result, the form is not helpful from a tax reporting perspective. In addition, transfers to wallets outside Coinbase will be marked as proceeds on this form, inflating your numbers. This is troublesome for investors, because transfers between cryptocurrency exchanges and wallets are not taxable events and should not be marked as such. 1099-K does not help the taxpayer. It only serves as an indicator to the IRS that you have crypto-related activity that should be getting reported.
1099-MISC is sent to Coinbase users who have received at least $600 worth of cryptocurrency from its Earn service, rewards program and/or staking. This form is useful for tax reporting because it details the amount of crypto you earned as income in U.S. dollars. This income gets reported on your taxes.
Finally, the Transaction History Report details all of your buys, sells, trades, withdrawals and deposits that happened within your account. This is the report that investors should use to piece together their trade history and calculate their gains and losses from their investments. Of course, this transaction history needs to be reconciled with any other transaction history from other exchanges or cryptocurrency platforms.
Proper Reporting
If you are a user of multiple crypto platforms, exchanges or wallets, you should understand that the forms you receive from your crypto exchanges will not always be helpful for reporting. And some, such as the 1099-K, may even be misleading. To properly report, you should pull together all of your transaction history from all of your platforms into a single unit of record and then carry out the necessary capital gains and losses calculations. Transfer these gains and losses to IRS Form 8949 the same way you would if you were trading/investing in stocks.
The information provided here is not investment, tax or financial advice. You should consult with a licensed professional for advice concerning your specific situation.