Expert Series
Oct 18, 2022

Cryptocurrency Accounting: Gains and Losses

A primer on how to properly account for gains and losses by Tactic's resident accounting expert

Drew Mowrey

Despite the wide use of cryptocurrency as an alternative to currency - accounting guidelines and the IRS alike treat digital assets as property. Therefore a capital gain or loss can be described  as the realized increase or decrease in price above what was originally paid for it.

For example - you bought a share of stock for $100. You sell the share of stock for $200. The resulting $100 profit would be your capital gain!

What actions result in a gain or loss for cryptocurrency?

There are three primary ways of realizing either a gain or loss. The common theme is activity that involves the disposal, or removal from the balance sheet, of a digital asset. These include:

  1. Selling cryptocurrency for fiat
  2. Spending cryptocurrency to purchase goods or services
  3. Exchanging or trading one type of cryptocurrency for another

While spending or exchanging cryptocurrency may not result in actual cash flow for an individual or entity- these actions do generally still have tax consequences and the beneficial change in value could result in a tax liability.

This may not be a problem for an individual with a buy and hold strategy as any changes in value would result in unrealized gains or unrealized losses, meaning that the changes in value are on paper only and have not been officially incurred.

This does however, create additional tax challenges for businesses who are required to report on unrealized gains, unrealized losses, or impairment related to digital assets.

Fair Value, Impairment, and Impact on Gains

On October 12, the FASB decided that digital assets which meet the eligibility requirements will be measured at fair value with respect to ASC 820, Fair Value Measurements. They also decided that increases and decreases in fair value will be recognized in comprehensive income and absent specialized industry guidance, costs to acquire digital assets should be expensed.

This decision is a big shift from the current treatment of digital assets as intangible assets. With this methodology, cryptocurrency is recorded at cost on the balance sheet. When the market value of that asset drops below this carrying value, impairment is recorded. Prior to this most recent decision, in US GAAP, once an asset was impaired it could not be revalued upwards if the price recovered. In International Financial Reporting Standards, or IFRS, impaired assets could be revalued upwards, but only to the original cost basis.

While these changes are not yet in effect - FASB will continue to deliberate on recognition, presentation, disclosures, and timeline for implementation on the new rules, there are some initial takeaways on how this might impact gains/losses:

  • An entity might recognize a realized loss from disposal of digital assets instead of impairment expense
  • An organization might experience less realized gains in their financial books, given that digital assets would not be impaired to a lower carrying value
  • Business would no longer capitalize trading fees resulting in lower net income now and higher potential capital gains in the future

It’s worth noting that the previous FASB decision of which crypto assets would be in-scope does not include NFT’s - so impairment accounting rules would still apply.

Impact on Business Taxes

As far as taxes are concerned there are several nuances and you should always first consult with a tax advisor in regards to your specific circumstances.

Gains and losses are first broken down into categories depending on how long they have been held by the individual or entity.

  • Short-Term Gains/Losses: result when the asset has been held for less than a year
  • Long-Term Gains/Losses: result when the asset has been held for longer than a year

Businesses are required to report on short-term vs long-term gains on their tax return. However, regardless of if short-term or long-term, the tax treatment is the same. All capital gains and losses from cryptocurrency are reported as a part of ordinary income. 

There may also be temporary differences between US GAAP financials and tax financials to consider. With the IRS and taxes - only realized capital gains will be included in income and only realized capital losses can be deducted. Accounting entries required for GAAP like impairment expense might not be deductible until the impaired asset is actually disposed of.

Calculating gains and losses can be tricky when it is manually done in a spreadsheet as the correct cost basis must be used. Crypto accounting software like Tactic makes it far easier to maintain your books for realized gains/losses, unrealized gains/losses, impairment, and ensure your tax return is simple, accurate, and automatic.

The information in this article is for general informational purposes only and does not constitute investment, accounting, tax, or legal advice.