Ethereum 2 Taxes After the Merge

Arthur Teller
ByArthur Teller, CPAReviewed byZac McClure, MBAUpdated on May 29, 2024 · minute read
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  • The Shanghai Upgrade was completed on April 12th, 2023, and the IRS issued informal guidance to clarify the switch from PoW to PoS does not trigger a taxable event for ETH holders. 

  • If you do not receive a token in return when you stake ETH, you likely have not experienced a taxable event.

  • If you do receive a token in return when you stake ETH (cbETH, stETH), you may elect to treat the transaction as taxable or non-taxable.

  • ETH staking rewards are taxed as income. The question is when that taxable event occurs: when they are earned or when they are unlocked.

The highly anticipated Shanghai Upgrade was completed on April 12th, 2023, which means staking rewards became available for withdrawal after a two-year lock-up period. With the historic Merge complete, Ethereum is now a proof-of-stake (PoS) chain. 

PoS means that instead of reaching consensus and validating new blocks by asking the network to expend energy solving puzzles (proof-of-work or PoW), Ethereum now does so by asking the network to lock up funds in the protocol. 

Before the Merge, investors had the opportunity to stake ETH to “ETH2” in exchange for rewards either as a full validator or through staking pools organized by a custodian like Coinbase. ETH2 was a bit of a misnomer, as PoS ETH was always intended to replace PoW ETH on a 1:1 basis. 

A concern some had prior to the Shanghai Upgrade is whether the Merge would be considered a taxable event for holders of the blockchain’s native token. This is not the case. The IRS has provided informal guidance that indicates a consensus mechanism switch from PoW to PoS is not itself a tax event.

Looking to calculate your Ethereum profit? Try our free Ethereum profit calculator.

Is staking ETH to ETH 2 taxable? 

It’s not clear whether staking ETH to ETH 2 was a taxable event. The IRS has not issued any guidance on the issue.

As mentioned, PoS ETH replaced all ETH tokens on a 1:1 basis, with all PoW ETH coins being burned in the process. This leads some to argue that the Merge was simply an upgrade; the act of locking up funds did not result in additional wealth or indicate the intention to dispose of the coin. Proponents of this argument also point to the fact that post-Merge, the ticker “ETH2” is in the process of being eliminated, since all ETH now supports PoS.

However, depending on how and where ETH was staked, it’s possible the transaction would be interpreted as taxable. For example, on Coinbase, ETH2 had its own ticker, which could suggest that ETH -> ETH2 was an exchange. Similarly, on Lido, stakers received stETH when staking to ETH2. If you chose to see staking as a taxable event, any capital gain or loss would be the difference between the value of the ETH when you purchased it and when you staked it.

The bottom line is that, with the support of your crypto tax accountant, you could elect to choose to stake ETH to ETH2 as a taxable or a non-taxable event.

When is staking ETH not taxable? 

If you stake ETH and do not receive any token in return, you have likely not realized a taxable event.

Is receiving cbETH taxable?

Coinbase has given investors the opportunity to wrap their staked ETH in order to have a liquid representation of their deposit; the wrapped coin is called cbETH. Similarly, on Lido, stakers receive stETH. Wrapping tokens is a gray area in DeFi taxes, and the IRS has not provided guidance. 

The safest approach is to treat wrapping staked ETH as a taxable event as the blockchain records that ETH was exchanged for cbETH. However, with the support of your crypto tax advisor, you may elect to treat wrapping ETH as a non-taxable event. 

Is earning staking rewards taxable? 

The unique nature of the Ethereum upgrade causes uncertainty about the taxation of staking rewards. One thing is certain: ETH staking rewards will be taxed as income. The question is when that taxable event occurs.

Typically, the receipt of crypto assets is considered taxable income when a taxpayer exercises “dominion and control” over the received asset(s). ETH staking rewards prior to the upgrade were locked and no one could trade or withdraw the funds. In certain rulings, the IRS has stated that “immediately [having] the ability to dispose of” an asset is what constitutes a taxable income event, so in theory the Shanghai Upgrade could trigger a taxable event on previously locked staking rewards.

This raises questions about when income from staking is realized. Our position at TokenTax is that validator (staking) rewards are income when received, and the initial ETH deposit when in an actual validator (i.e. when staked) should not be considered taxable. Trading staked crypto for a liquid staking derivative (LSD) is a taxable event, because the trade is a “swap” and considered a sale.

You could opt to wait until the funds are available to claim them (with the guidance of a qualified tax professional). This delays taxation, but depending on market fluctuations could result in a higher fiat value of your rewards than if you claim them when they were displayed in your Earn balance.

The most conservative approach is to report staking rewards when your Earn balance increases. This is a safe route and would also start your long-term capital gains clock earlier. Consult your tax professional for further guidance.

Ethereum 2 taxes after the merge FAQs

Here are answers to frequently asked questions about ETH 2 taxes after the merge.

Is staking ETH to ETH 2 taxable?

The tax implications of staking ETH to ETH 2 post-Shanghai Upgrade are uncertain. While the IRS hasn't provided specific guidance, interpretations vary. Some argue it's merely an upgrade, while others suggest it may trigger taxation, especially depending on the platform used. Consulting a crypto tax accountant can help navigate this ambiguity.

When is staking ETH not taxable?

Staking ETH without receiving a token in return is usuallyn't taxable. This straightforward guideline means that if no token is obtained through staking, investors are less likely to face a taxable event, simplifying their tax obligations.

Is earning ETH staking rewards taxable?

ETH staking rewards are taxable as income, but determining the timing of taxation post-upgrade is challenging. While some suggest reporting when the Earn balance increases, consulting a tax professional is crucial for personalized guidance on managing and reporting staking rewards.

To stay up to date on the latest, follow TokenTax on Twitter @tokentax.

Arthur Teller
Arthur TellerCOO (Former) at TokenTax
Arthur came to TokenTax after 12 years at KPMG. A specialist in partnership taxation and enterprise tax software, he is a licensed CPA in both California and Illinois and a member of the AICPA.
Zac McClure
Reviewed byZac McClureCo-Founder & CEO at TokenTax
Zac co-founded TokenTax after his career in international finance and accounting at JPMorgan, Imprint Capital and Bain. He has worked in more than half-dozen countries and received his MBA from the UPenn Wharton School.

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