These instructions were prepared for you by Crypto Tax Girl, per the guidance provided in Rev Proc 2024-28. Please follow all steps before January 1, 2025 to ensure compliance.
*Please note that there are some ambiguities in the Rev Proc, and the AICPA has requested clarity around these items; however, the IRS has yet to respond, and the deadline to take advantage of the safe harbor is near, so the instructions below were prepared per our understanding of the Rev Proc.
1. Watch this video I made breaking down all of the new cryptocurrency guidance (not required, but recommended).
2. Take a snapshot of your token balances in all of your wallets and exchanges before January 1, 2025 but after you are done transacting for 2024. Per Section 4.02(4) of the Safe Harbor Instructions, “The taxpayer must be able to identify and maintain records sufficient to show the total number of remaining digital asset units in each of the wallets or accounts held by the taxpayer.”
It is somewhat unclear if the IRS will accept screenshots or closing position reports from Crypto Tax Software like Koinly, CoinTracking, or Cointracker as sufficient evidence of year-end wallet and exchange balances, so we are urging our clients to take snapshots directly from your wallets and exchanges showing your year-end balances. Please do the following prior to January 1, 2025 but after you are done transacting in a wallet/exchange for the year:
Step 1: Identify your wallets and exchanges that have token balances.
Step 2: Take a screenshot of your token balances in each wallet and exchange, ensuring that you capture the date stamp in your screenshot along with all token balances. You can use tools like the Snipping Tool for Windows (shortcut: Windows + Shift + S) or a similar program on your computer. For Mac users, you can use the screenshot feature (shortcut: Command + Shift + 4). You can also use the screenshot feature on your phone to capture the balances.
Step 3: Save all screenshots in a folder, or consolidate them into one document. Please label the files by wallet or exchange name, including your wallet addresses where possible.
Step 4: Save a copy for your records and provide us with a copy when we start your 2024 engagement.
3. Select a Global Allocation method. The purpose of this step is to transition you from your previously used universal method of accounting to the new wallet-by-wallet method of accounting that is required starting on January 1, 2025, per § 1.1012-1(j). We recommend one of the following allocation methods.
- Highest Cost Allocated First – This method would allocate everything you owned before 1/1/25 in order from highest cost to lowest cost. The highest-cost lots would be allocated first to your assets on hosted wallets then to your assets on unhosted wallets in order of acquisition date, from oldest to newest. This would mean that starting in 2025, when the default accounting method switches to First-In-First-Out (FIFO), your sells, trades, spends, or transfers of assets owned before 1/1/25 will pull first from your highest cost units allocated to each wallet and exchange. This approach will generally result in deferring gains and accelerating losses.
- Lowest Cost Allocated First – This method would allocate everything you owned before 1/1/25 in order from lowest cost to highest cost. The lowest-cost lots would be allocated first to your assets on hosted wallets then to your assets on unhosted wallets in order of acquisition date, from oldest to newest. This would mean that starting in 2025, when the default accounting method switches to First-In-First-Out (FIFO), your sells, trades, spends, or transfers of assets owned before 1/1/25 will pull first from your lowest cost units allocated to each wallet and exchange. This approach will generally result in accelerating gains and deferring losses.
- Oldest Allocated First – This method would allocate everything you owned before 1/1/25 in order of acquisition date, from oldest to newest. The oldest lots would be allocated first to your assets on hosted wallets then to your assets on unhosted wallets in order of acquisition date, from oldest to newest. This would mean that starting in 2025, when the default accounting method switches to First-In-First-Out (FIFO), your sells, trades, spends, or transfers of assets owned before 1/1/25 will pull first from your oldest assets allocated to each wallet and exchange. This approach will generally result in accelerating long-term gains, which are taxed at a lower rate than short-term gains.
As you will notice in the above descriptions, we will apply your allocation method first to your assets on hosted wallets (exchange accounts), and then to your assets on unhosted wallets (self-custody wallets), based on the assumption that the hosted wallets are more active, and the cost basis assigned to the hosted wallets will be used up first. If you prefer to have the allocation method applied first to your unhosted wallets and then to your hosted wallets, please indicate it on the Digital Asset Allocation Plan.
In general we recommend the Highest Cost Allocated First method, as most people prefer to defer gains; however, if you have large carryover losses, are anticipating a higher income/tax bracket in the future, or want to maximize long-term gains, you may want to choose one of the other methods.
Please note that per Section 4.01(4) of the Rev Proc, you may apply a different allocation method to each type of digital asset (e.g. Highest Cost Allocated First to BTC and Lowest Cost Allocated First to ETH); however, to avoid accounting complexities, we recommend that you use one method across all assets.
Regardless of the allocation method you choose, when we work on reconciling your 2024 transactions, we will walk you through the impact of your allocation and make sure you understand how the allocation and new wallet-by-wallet accounting will impact you going forward.
Please note that these rules do not apply to NFTs as NFTs are all unique and their cost basis will be established from the individual purchase transaction.
4. After you have chosen your allocation method, please document it at the bottom of page one of your Digital Asset Allocation Plan, and sign and date the document before January 1, 2025 to ensure compliance. Please note that the Digital Asset Allocation Plan does not need to be submitted to the IRS but you will need to keep a copy of it for your records and also provide us with a copy of it for our records when we perform your crypto reconciliation. If you are ever audited, you will need to provide this to the IRS.
*Please note that the Rev Proc also covers a specific unit allocation for pre-2025 assets; however, we do not have the capacity to support this allocation method. The Rev Proc also covers a specific identification method of accounting that can be used post-2025; however, in order to use this method, you must document which lot you want to sell prior to conducting the transaction. After January 1, we will not have the luxury of running various accounting methods to see which is the most advantageous for you, and FIFO accounting will be used on a wallet-by-wallet method. However, if you ever want to do a specific identification method of accounting on one or more of your wallets or exchanges, please let us know and we would be happy to help you document and account for this. Please note that using the specific identification method of accounting is more complicated from an accounting perspective and will require a lot of manual work, so we only recommend doing this on large transactions with a material impact.
