Crypto Cost Basis: Methods and IRS Reporting Requirements

Cost basis is the single most consequential record in a crypto tax return. Get it right and your gain or loss is defensible to the IRS, audit-ready, and consistent with whatever a broker reports on Form 1099-DA. Get it wrong and you can end up paying tax on phantom gains, missing legitimate losses, or facing a discrepancy notice that takes months to unwind.

This guide walks through what cost basis is, the only two methods the IRS allows for crypto, the wallet-by-wallet rule that took effect January 1, 2025, and how the new Form 1099-DA broker reporting changes the workflow. The information here is general and educational. For complex situations like inherited crypto, gifted crypto, or large unreconciled histories, work with a CPA or, where the dispute involves a tax controversy, a qualified tax attorney who handles digital assets.

What Cost Basis Is and Why It Decides Your Tax

Cost basis is the amount you paid for a cryptocurrency, including transaction fees, expressed in US dollars at the time of acquisition. When you later sell, swap, or otherwise dispose of the crypto, your capital gain or loss is the difference between the disposal proceeds and the cost basis. The IRS treats cryptocurrency as property under Notice 2014-21, so the rules that apply to stocks and other property generally apply to crypto.

The mechanics matter because cost basis is what turns a sale price into a taxable number. A $50,000 Bitcoin sale is not a $50,000 gain. If your basis is $35,000, the taxable gain is $15,000. If your basis is $65,000, you have a $15,000 loss. Both outcomes depend entirely on which units you identify as sold and at what acquisition price.

Three pieces of information together define a cost basis record:

• The date and time the unit was acquired.
• The US dollar fair market value at acquisition, plus any fees paid.
• The wallet or account where the unit was held.

Each of those three pieces is independently required by IRS regulations under Reg. §1.1012-1(j), the final regulations on digital asset lot identification. Missing any one of them can default a position to the most expensive available treatment for the taxpayer.

A CPA reviews a client’s printed crypto transaction history and Form 8949 pages alongside a Koinly-style cost basis dashboard, the year-end reconciliation step that decides what gets reported on Schedule D.

The Only Two Cost Basis Methods the IRS Allows

For cryptocurrency, the IRS recognizes two cost basis methods. FIFO is the default. Specific Identification is the permitted alternative when proper documentation exists.

FIFO (First In, First Out) assumes that the first units you acquired are the first ones sold. If you bought 1 BTC at $20,000 in January and 1 BTC at $40,000 in June, then sold 1 BTC in December for $50,000, FIFO matches the December sale against the January lot and produces a $30,000 gain. FIFO requires no special documentation. It applies automatically when records are insufficient to support another method.

Specific Identification allows you to designate which exact units are sold at the time of the sale. Using the same example, Specific Identification would let you assign the June $40,000 lot to the December sale, producing a $10,000 gain instead of $30,000. The trade-off is documentation: you must have contemporaneous records showing which lot was identified for the disposal, and the choice must be made at or before the time of sale (not retroactively at year-end).

HIFO (Highest In, First Out) and LIFO (Last In, First Out) are frequently described as separate methods, including in some tax software interfaces. For IRS compliance purposes, they are not. They are lot-selection strategies applied within Specific Identification. HIFO uses Specific Identification to designate the highest-cost lot for each sale, which minimizes the immediate gain. LIFO designates the most recent lot. On the tax return, the method line still reads “Specific Identification”; HIFO and LIFO describe how the lots within that method were chosen.

Average cost basis, which is the standard method in Canada and several other jurisdictions, is not permitted in the United States for cryptocurrency. A taxpayer who uses an averaging method on a US return is reporting incorrectly regardless of how the underlying transaction history was organized.

The Wallet-by-Wallet Rule (Rev. Proc. 2024-28)

Until the end of 2024, many crypto investors used a “universal” cost basis approach, pooling all units of the same coin across every exchange, wallet, and cold storage device into a single ledger. That approach is no longer allowed.

Under IRS Rev. Proc. 2024-28, effective January 1, 2025, cost basis must be tracked wallet-by-wallet. Each exchange account and each self-custody wallet is treated as an independent ledger, with its own FIFO queue or Specific Identification record. A unit of BTC bought on Coinbase and a unit of BTC bought on Kraken are no longer interchangeable for cost basis purposes, even though they are the same asset.

The change matters because it can produce different tax outcomes from the same set of trades. Under the universal method, a taxpayer with multiple BTC purchases across several accounts could effectively choose which lot to sell from anywhere. Under the wallet-by-wallet rule, the sale must come from the lots held in the specific wallet where the disposal occurred. If a wallet contains only high-basis lots, only those high-basis lots can be relieved against that wallet’s sales.

For unused basis held on January 1, 2025, Rev. Proc. 2024-28 provided a one-time safe harbor allowing taxpayers to reasonably allocate the remaining basis across their wallets and accounts. The allocation method (either specific unit allocation or a written global allocation rule) had to be documented by January 1, 2025, and the actual allocation completed no later than the filing of the 2025 Form 1040. Taxpayers who did not document an allocation plan default to FIFO applied wallet-by-wallet, which may or may not produce the most favorable outcome depending on the history.

Comparing Cost Basis Methods Side by Side

The choice of method changes both the size of the gain and whether it is taxed at short-term or long-term rates. The example below uses three Ethereum purchases in 2025 and a single sale to illustrate.

The bound on this comparison is real. HIFO and LIFO both require contemporaneous documentation under Specific Identification. A taxpayer who chose HIFO in tax software but did not establish a standing instruction or specific identification record before the sale has not satisfied the IRS requirements and defaults to FIFO under audit. The mechanical preference and the documentation requirement are not the same thing.

Method choice can also affect holding period. HIFO often selects more recently acquired lots, which means the gain or loss tends to be short-term. FIFO often selects older lots, which can shift the character to long-term and access the preferential 0%, 15%, or 20% capital gains rate. Minimizing the dollar amount of gain and minimizing the tax rate on that gain are not always the same objective.

How to Calculate Cost Basis in Practice

The calculation itself is mechanical. The difficulty is record completeness. The steps below assume a taxpayer either has clean records or has imported them into crypto tax software that can reconcile multi-wallet histories.

1. For each acquisition, record the date, time, asset, quantity, US dollar fair market value at acquisition, and any transaction fees. The fees are added to the cost basis, not deducted from the proceeds.
2. For each disposal, record the date, time, asset, quantity, sale proceeds in US dollars, and any disposal fees. The fees reduce the proceeds.
3. Identify the wallet or account where the disposal occurred. Under the wallet-by-wallet rule, the cost basis must come from lots held in that same wallet.
4. Apply your chosen method (FIFO by default, or Specific Identification with documented lot selection at the time of sale). Match each disposal to one or more acquisition lots until the disposed quantity is fully accounted for.
5. Calculate the gain or loss per disposal as (proceeds minus fees) minus (cost basis plus fees). Classify as short-term if the holding period from acquisition to disposal is one year or less, long-term if longer.

Special situations require additional steps. Crypto received as mining or staking rewards is taxed as ordinary income at fair market value on the date of receipt; that income value becomes the new cost basis for those tokens going forward. Crypto received as a gift inherits the donor’s basis if there is a gain on later sale, or the fair market value at the date of the gift if there is a loss. Crypto received from an inheritance generally receives a step-up in basis to fair market value on the date of death.

Reporting Crypto Capital Gains on Form 8949 and Schedule D

The crypto tax workflow ends on two IRS forms. Form 8949 lists every individual disposal with date acquired, date sold, proceeds, cost basis, and gain or loss. Schedule D summarizes the totals from Form 8949 by holding period (short-term vs long-term) and carries the net gain or loss to Form 1040.

Form 8949 has three categories, distinguished by how the basis was reported to the IRS by the broker:

• Box A / Box D: Transactions reported on Form 1099-DA where cost basis was reported to the IRS. For crypto, this applies starting with 2026 covered transactions.
• Box B / Box E: Transactions reported on Form 1099-DA where cost basis was not reported to the IRS. This is the default category for 2025 transactions, since brokers were only required to report gross proceeds for that year.
• Box C / Box F: Transactions not reported on Form 1099-DA. This covers activity on self-custody wallets, decentralized exchanges, peer-to-peer trades, and any disposal outside a covered broker.

The character of the gain or loss is captured by the form variant: Boxes A, B, and C are short-term; Boxes D, E, and F are long-term. Net short-term losses first offset short-term gains; net long-term losses first offset long-term gains. Excess of either category then offsets the other. Any remaining net capital loss reduces ordinary income up to $3,000 per year ($1,500 if married filing separately), with the unused balance carried forward indefinitely.

Form 1099-DA: What Brokers Report and What They Do Not

The IRS phased in Form 1099-DA over two tax years. For 2025 transactions, US crypto brokers were required to report only gross proceeds. For 2026 transactions, brokers must also report cost basis on covered digital asset dispositions. The phase-in created a one-year window during which taxpayers must compute and report basis themselves even if the broker has the data.

Three points are worth understanding about how 1099-DA interacts with cost basis records.

First, the basis reported on a 1099-DA reflects what the broker observed for assets acquired on that platform. Crypto transferred in from another exchange or from a self-custody wallet may not carry verified basis on the broker’s side, which can lead to a 1099-DA showing $0 basis or no basis at all for some lots. The taxpayer is responsible for supplying the correct basis on Form 8949.

Second, the 1099-DA reports activity only at the level of the broker that issued it. A taxpayer with accounts on Coinbase and Kraken receives a 1099-DA from each, covering only that platform. There is no consolidated cross-platform 1099-DA. Reconciliation across brokers, wallets, and DEX activity remains the taxpayer’s job.

Third, the wallet-by-wallet rule applies regardless of what the 1099-DA shows. If the broker uses FIFO at the account level and you held Specific Identification records for that account at the time of sale, the Specific Identification record controls for your tax return, and any discrepancy with the 1099-DA must be reconciled on Form 8949 with the appropriate adjustment code.

Common Cost Basis Mistakes

Most cost basis problems trace back to one of four errors, each preventable with records.

• Missing acquisition records. Without documentation of the original purchase price, the IRS position defaults to a zero basis on audit, which converts the entire sale into taxable gain. Reconstructing basis from old exchange statements or block explorers is possible but expensive.
• Using the universal method after January 1, 2025. Pooling cost basis across all wallets is no longer permitted under Rev. Proc. 2024-28. Continuing to apply universal tracking after the effective date creates a reporting inconsistency that the IRS can flag.
• Selecting HIFO or LIFO in software without contemporaneous lot identification. Specific Identification requires that the lot be identified at or before the time of sale. A retroactive HIFO calculation at year-end does not meet the standard and defaults to FIFO under scrutiny.
• Ignoring crypto-to-crypto trades. Swapping ETH for SOL is a disposal of the ETH and an acquisition of the SOL, both at fair market value on the trade date. Many investors who never converted to fiat in a given year still have substantial taxable activity and corresponding new cost basis records to maintain.

When to Bring In a Professional

For most investors with activity on a single US-licensed exchange and a modest number of trades, crypto tax software plus standard tax preparation handles cost basis cleanly. The math is mechanical once the records are clean.

Professional help becomes more useful in three specific situations. The first is a multi-year history with gaps, where reconstructing basis requires investigative work across exchanges, block explorers, and old wallet activity. The second is significant staking, mining, DeFi, or NFT activity, where ordinary-income recognition events create new basis records that have to be tracked independently of capital activity. The third is any open audit or controversy, where the cost basis becomes the subject of negotiation rather than a routine reporting question.

For investors at any size, the year-end reconciliation step is now non-negotiable. The 1099-DA arriving in January or February is the IRS’s reference document. Comparing it against your tax software output before filing prevents the most common discrepancy notices, regardless of how careful the underlying record-keeping was during the year.

Frequently Asked Questions

What cost basis methods does the IRS allow for cryptocurrency?

The IRS allows two methods for crypto: First In, First Out (FIFO) as the default, and Specific Identification when contemporaneous documentation supports the chosen lots. HIFO and LIFO are not separate IRS-approved methods; they are lot-selection strategies applied within Specific Identification. Average cost basis is not permitted in the United States for cryptocurrency.

What is the wallet-by-wallet rule?

Effective January 1, 2025, IRS Rev. Proc. 2024-28 requires cost basis to be tracked separately for each wallet or exchange account, ending the universal pooling approach. Each account is treated as an independent ledger, with its own FIFO queue or Specific Identification records. A sale from one wallet must use cost basis from lots held in that same wallet.

How is crypto taxed in the US?

Cryptocurrency is taxed as property. Every sale, exchange, or disposal triggers a capital gain or loss equal to proceeds minus cost basis. Crypto held one year or less produces a short-term gain or loss taxed at ordinary income rates (10% to 37%). Crypto held longer than one year produces a long-term gain or loss taxed at preferential rates (0%, 15%, or 20%). Mining, staking, and airdrop receipts are taxed as ordinary income at fair market value on receipt.

How do I report crypto on my taxes?

Crypto capital gains and losses are reported on IRS Form 8949 (individual transactions) and summarized on Schedule D, which carries the totals to Form 1040. Form 8949 has three boxes for short-term and three for long-term, depending on whether the transactions were reported on Form 1099-DA and whether the basis was reported. Mining, staking, and other ordinary-income crypto receipts are reported separately on Schedule 1 or Schedule C depending on activity level.

What is Form 1099-DA?

Form 1099-DA is the IRS form for Digital Asset Proceeds from Broker Transactions, effective starting with the 2025 tax year. US crypto brokers must report gross proceeds for 2025 transactions and both gross proceeds and cost basis for covered 2026 transactions. The first 1099-DA forms arrived in early 2026 for 2025 activity.

Is HIFO allowed for crypto?

HIFO is allowed only as a lot-selection strategy within Specific Identification, not as a standalone method. To use HIFO, you must have contemporaneous records identifying the highest-cost lot as the one sold at or before the time of sale. Selecting HIFO in tax software at year-end without supporting lot-level records does not satisfy the IRS requirements and defaults to FIFO under audit.

What happens if I do not have cost basis records?

Without records, FIFO applies by default and basis can be reconstructed from exchange statements, bank records, and on-chain transaction histories. If basis cannot be substantiated, the IRS may treat the cost basis as zero, which converts the entire sale into a taxable gain. Reconstructing basis is time-consuming but generally less expensive than paying tax on phantom gains.

Do I have to pay taxes on crypto if I did not sell?

Holding crypto is not a taxable event. Buying crypto with US dollars is not a taxable event. Taxable events include selling crypto for fiat, trading one crypto for another, using crypto to buy goods or services, and receiving crypto as income (mining, staking, airdrops, payments). Unrealized gains on crypto you continue to hold are not taxed.

How are crypto capital gains taxed?

Crypto capital gains are taxed at the same rates as gains on stocks. Short-term gains (assets held one year or less) are taxed at ordinary income rates ranging from 10% to 37%. Long-term gains (assets held longer than one year) are taxed at 0%, 15%, or 20% depending on taxable income. The 3.8% Net Investment Income Tax may also apply for higher-income taxpayers.

What is the safe harbor under Rev. Proc. 2024-28?

The safe harbor allowed taxpayers who used the universal method before January 1, 2025, to reasonably allocate their remaining unused basis across wallets and accounts as of that date. The allocation method (specific unit allocation or written global allocation) had to be documented by January 1, 2025, and the actual allocation completed no later than the filing of the 2025 Form 1040. The safe harbor was a one-time transition relief.