This article is part of TokenTax's Cryptocurrency Tax Guide.
FIFO vs. LIFO vs. Minimization accounting methods for crypto tax: What are they? Are they allowed?
Accounting methods such as FIFO, LIFO, and Minimization for capital assets like crypto determine how acquisitions and sales are matched up when calculating your gain / loss.
In the IRS crypto tax FAQ, it was clarified that specific identification — choosing which cost bases to use for sales — is allowed for crypto. This means that different accounting methods can be used to calculate your crypto taxes.
How FIFO, LIFO, and Minimization work
First in, first out (FIFO): Assets acquired first are sold first.
Last in, first out (LIFO): Assets acquired last are sold first.
Minimization: Our own tax-rate adjusted highest price first out algorithm
TokenTax automatically calculates your tax bill using each method, so you know which one minimizes your estimated tax liability the most.
We also let you use different accounting methods for different years, so you can strategically time your gains and losses.
Be sure that you’ve accurately specified what accounting method you used in previous years’ tax filing in your tax details settings.
What about the average cost method?
Tax filers in Canada, the U.K., and in certain other countries are required to use average cost accounting. With average cost, cost basis for average cost is calculated via the average price you paid for all units of a specific cryptocurrency, and uses that unit cost as the cost basis rate for every single sale of that crypto, across all your assets.
Note that this method is not used in the United States and in any other country that requires methods like FIFO, LIFO, etc.
Which accounting method should I use?
With TokenTax, you can see how your gains and losses and estimated tax liability change with different accounting methods. You don’t need to use the same accounting method every year, so you can strategically time your gains and losses.
In the end, the accounting method you choose will not change your total capital gains. It only changes the timing of your capital gains. Minimization can help prioritize long term gains over short term gains.
This way, you can defer gains to long term where possible so that you are taxed at a lower rate. Or, for example, you may expect to be in a higher tax bracket next tax year, so you will want to use FIFO to claim as much gains as possible this year while you are in a lower tax bracket.
What is Minimization? How does it work?
Minimization is a proprietary accounting method included with our crypto tax software that minimizes your tax liability as much as possible for this year. First, you enter your filing information so we know your tax rates on long term capital gains and short term capital gains. Our algorithm will then look at all available purchases and lets you select the one that minimizes taxes while also prioritizing long-term gains where advantageous considering your tax rates.