What cost basis methods can I use (FIFO/LIFO/Specific ID)?

FIFO (first‑in, first‑out) and LIFO (last‑in, first‑out) are common. Specific Identification may lower taxes if you track lot IDs accurately. Consistency and proper documentation are key.

What cost basis methods can I use (FIFO/LIFO...

Understanding Cost Basis💡 Definition:The original purchase price of an investment, used to calculate capital gains or losses when you sell. Methods for Cryptocurrency💡 Definition:Digital currencies that use cryptography for secure transactions and can offer investment opportunities.: FIFO, Specific ID, and More

Navigating the world of cryptocurrency taxation can be daunting, especially when it comes to determining your cost basis. This is a crucial element in calculating capital gains💡 Definition:Profits realized from selling investments like stocks, bonds, or real estate for more than their cost basis. or losses, which directly impacts your tax obligations. As of 2025, the IRS allows only two cost basis methods for cryptocurrencies: First-In, First-Out (FIFO) and Specific Identification (Specific ID). Understanding these methods can help you optimize your tax strategy and avoid costly errors. Let's dive into the details.

Main Explanation of Cost Basis Methods

First-In, First-Out (FIFO)

FIFO assumes that the first units you purchase are the first ones you sell. This method is straightforward and the default💡 Definition:Default is failing to meet loan obligations, impacting credit and future borrowing options. option if no specific identification is made. It's particularly useful for investors with simple transaction histories, as it requires minimal record-keeping.

How It Works: When you sell a portion of your crypto holdings, FIFO assumes you're selling the oldest assets💡 Definition:Wealth is the accumulation of valuable resources, crucial for financial security and growth. first.
Tax Implications: In a rising market💡 Definition:20%+ sustained market rise from recent low. Characterized by optimism, economic growth, and rising prices. Opposite of bear market., FIFO can often lead to higher taxable gains compared to other methods, as the older (and typically cheaper) units are sold first.

Specific Identification (Specific ID)

Specific ID allows you to pinpoint exactly which units of cryptocurrency you are selling. This method provides flexibility and can be advantageous for tax purposes if you choose to sell higher-cost units.

How It Works: You must identify and document the specific units (by purchase date and cost) you are selling at the time of the transaction.
Tax Implications: By selling higher-cost units, you can minimize your taxable gains, potentially lowering your tax bill.

Other Methods: LIFO and HIFO

While Last-In, First-Out (LIFO) and Highest-In, First-Out (HIFO) are sometimes mentioned, they are not standalone methods approved by the IRS for cryptocurrencies. These can only be used under Specific ID if you can accurately identify and document the specific units sold.

LIFO: Assumes the most recently acquired units are sold first.
HIFO: Prioritizes selling the highest-cost units first.

Both methods require meticulous record-keeping and documentation, as failure to comply with IRS standards can lead to penalties.

Real-World Examples

Example 1: FIFO

Imagine you purchased 1 BTC💡 Definition:Bitcoin is a decentralized digital currency that empowers users with financial autonomy and investment potential. for $10,000 in January and another for $20,000 in June. You sell 1 BTC in December for $30,000. Using FIFO, you would sell the January BTC, realizing a $20,000 gain:

Purchase Date	Cost Basis	Sale Date	Sale Price💡 Definition:A reduction in price from the original or list price, typically expressed as a percentage or dollar amount.	Gain/Loss
January	$10,000	December	$30,000	$20,000

Example 2: Specific ID

Using the same purchases, if you specifically identify the June BTC for sale, your gain would be $10,000:

Purchase Date	Cost Basis	Sale Date	Sale Price	Gain/Loss
June	$20,000	December	$30,000	$10,000

Example 3: HIFO/LIFO

To minimize gains, you might choose to sell the highest-cost unit (HIFO) or the most recent unit (LIFO), but only if you can specifically identify and document this before the sale.

Common Mistakes or Considerations

Documentation: Specific ID requires strict record-keeping. Each transaction must be documented with the correct purchase date, cost, and sale details before the transaction occurs.
Tax Impacts: Choose your method wisely based on market conditions. FIFO generally results in higher gains in a rising market.
Compliance💡 Definition:Compliance ensures businesses follow laws, reducing risks and enhancing trust.: Using unapproved methods like LIFO or HIFO without proper documentation can lead to IRS complications and penalties.

Bottom Line

When handling cryptocurrency transactions, understanding and choosing the right cost basis method is crucial. While FIFO is straightforward and the default, Specific ID offers more control but demands meticulous documentation. As crypto regulations continue to evolve, staying informed and compliant is key to optimizing your tax strategy. Always consult with a tax professional to ensure the best approach for your individual situation and to avoid any potential pitfalls.