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Crypto Tax Accounting Software Tips & Guidance
How to choose the best crypto tax software
Choosing the right crypto tax software is crucial for accurately managing your cryptocurrency transactions and complying with tax regulations. With a myriad of options available, it's essential to consider factors such as user interface, supported exchanges, tax calculation methods, and security features. By thoroughly researching and comparing different solutions, you can select the one that best fits your needs and simplifies the complex task of crypto tax reporting.
The success of managing and calculating crypto taxes hinges on four things:
- Crypto tax software
- The source and format of crypto data
- The taxpayer
- Tax regulations
Why do I need crypto tax accounting software?
Crypto tax software is essential for several reasons:
- It helps you accurately calculate your tax liabilities on cryptocurrency transactions, including trades, sales, and income from mining or staking. With the ever-changing landscape of tax regulations surrounding cryptocurrencies, using specialized crypto tax software aids in calculations to help you be in compliance with tax laws and regulations specific to your jurisdiction.
- It streamlines the process of organizing and reporting your transactions, saving you valuable time and reducing the risk of errors that could lead to penalties or audits from tax authorities.
- It’s practically impossible to calculate crypto taxes without crypto tax software. Even a seemingly simple crypto transaction scenario would otherwise be a daunting task to calculate without software.
Key Takeaway
Crypto accounting software is NOT a magic wand for completing crypto tax calculations as the software vendors lead you to believe even though crypto taxes is impossible without software. There’s a lot more to it than linking exchange accounts and clicking calculate, as you will find laid out in The Crypto Tax Blueprint™.
The amount of work and the outcome of your crypto taxes is dependent on how far and wide you ventured into the crypto tax landscape. Newbies with one exchange account will have a ,more simple plug and caluculation experience. On the other hand degens (crypto power users) who play on multiple chains, DeFi platforms, wallets and so on will have an extreme amount of work to sort out their crypto tax software.Â
The amount of time and energy required to complete crypto taxes is based on the The Digital Asset Accounting and Tax Complexity Equation™ (defined by Crypto Bullseye Founder Kirk David Phillips).
The equation goes like this (T x W x E x A x N x C x B x M x F x D x Q x S)²
The factors in the equation are represented as:
T = the number of transactions
W = the number of wallets/addresses
E= the number of exchanges
A = the number of crypto assets
N = the number of NFTs
C = the number of chains
B = the number of layer 2s and bridges
M = the number of commingled transactions
F = the number of data formats
D = the number of DeFi platforms and positions
Q = the number of dual token symbols and other quirky issues
S = the number of time stamp issues
Key Takeaway
The higher your theoretical crypto tax complexity number and the more complex your crypto, the more headaches you will encounter and the more expensive your tax prep.
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The taxpayer only has maximum control over one of those four things, which is themselves. Taxpayers can choose crypto tax software, but all software has limitations. Taxpayers can also choose the exchange or wallet they use, but the quality of the data format and ability to get transactions into software can be a headache. Tax regulations lag behind the rapid innovation in the crypto space, leaving taxpayers with varying degrees of clarity in most tax regimes. Therefore, taxpayers have limited control over the issues with crypto tax software and crypto data formats, and no control over tax regulations.
How does crypto tax software work?
Software for crypto taxes typically works by integrating with cryptocurrency exchanges and wallets to automatically import transaction data. Once the data is imported, the crypto accounting software uses cost basis methods to calculate gains, losses, and ordinary income based on factors such as purchase price, sale price, date of acquisition, and holding period.
The software then generates tax reports, like IRS Form 8949 in the U.S. or similar forms required by tax authorities in other jurisdictions. Some advanced features may include the ability to handle complex transactions like margin trading or decentralized finance (DeFi) activities.
Crypto tax software also generally creates multiple reports in CSV format, including gains and losses, income, costs, ending balances etc. Gain and loss reports, for example, can then be formatted as necessary and used as tax filing attachments on tax returns in various jurisdictions. This gives the user choices in lieu of an actual reporting form like Form 8949.
Ultimately, the software you use for crypto tax simplifies the process of tracking, calculating, and reporting cryptocurrency transactions for tax purposes.
Key Takeaway
Getting data into crypto tax accounting software is easier said than done, especially if you have complex crypto taxes. The 80/20 rule applies to crypto taxes like everything else, where 80% of transaction importing, review and troubleshooting takes 20% of the work, and the remaining 20% takes 80% of the work.
5 tips for choosing the best crypto tax software
Here are some tips to help you make an informed decision and choose the crypto accounting software that best meets your needs and preferences.
1. Compatibility and integration
Ensure that the software supports integration with the cryptocurrency exchanges and wallets you use. Look for compatibility with a wide range of platforms to ensure all your transactions are accurately tracked. Create a master inventory list of all your wallets, exchanges, chains, tokens, DeFi platforms, and so on. This will become an invaluable reference during the due diligence and troubleshooting process.
Key Takeaway
Assess crypto tax accounting solutions to identify which of your wallets and exchanges are NOT supported by the software, then choose and test at least three vendors. The compatibility process is more about identifying what the software is NOT capable of importing rather than what it can. The unsupported wallet and exchange data will have to be manually reformatted and imported. This is where the 80/20 rule kicks in.
2. Accuracy and compliance
Crypto tax software does NOT consider or incorporate tax regulations in multiple jurisdictions around the world, especially when countries like the U.S. still have a lack of clarity on many crypto issues. It calculates gains and losses using various user-selected, cost basis methods and staking income, for example.
You have to know which cost basis method is allowed in your country and whether or not staking rewards are considered income when received, for example. The Proof of Stake Alliance has advocated for deferral of staking income recognition until staking rewards are later sold. Nonetheless, opt for software that can handle the complexity and variety of your crypto transactions, which is once again easier said than done.Â
Providing liquidity (called an LP), for example, by supplying ETH and BTC on Uniswap is an extremely complex set of transactions over time and many software providers still don’t have the features necessary to correctly and accurately calculate gains, losses and income.
3. User-friendly interface
Choose software with an intuitive and user-friendly interface. The software you use for crypto taxes should make it easy for you to input data, review transactions, and generate tax reports without requiring extensive technical knowledge. Most crypto tax software has good UX; however, it’s difficult to know ahead of time whether an LP will be tracked properly, for example.
Furthermore, if the software does not initially pick up transactions correctly, does it allow the user to easily change the categorization of the transaction? The lack of user categorization or coding (e.g., income, expense, transfer, swap, pool) abilities is one of the biggest drawbacks for crypto power users who have a complex crypto equation.
4. Security measures
Prioritize software that implements stringent security measures to safeguard your sensitive financial data and personal information. Look for features like two-factor authentication, and adherence to industry-standard security protocols. Ironically, all crypto tax software is a Web2 model; i.e. the standard central server and centralized databases model. Blockchains and crypto is essentially Web3 and the decentralization is one of the key value propositions to prevent data hacking.
Key Takeaway
Always assume your online platforms will be hacked and your sensitive data will be exposed. It’s an exercise in futility to think otherwise, especially in the Web2 space. All large data hacks like Target, TJ Maxx, and Home Depot have proven that giant silos of centralized data can NOT be protected from hacks. Knowing the security measures for your crypto tax software will only take you so far.
5. Customer support and resources
Select software that offers reliable customer support and comprehensive resources. Whether through email, live chat, or documentation, access to responsive support can be invaluable for resolving issues and getting assistance when needed. Additionally, look for educational resources such as FAQs, tutorials, and guides to help you navigate the software effectively.
If you follow the minimum of three vendors test, then you should ping customer support for all three with inquiries to assess their responses. Keep in mind support gets strained near tax filing deadlines so you want to be proactive and get ahead of the game when working on your crypto taxes.Â
Related: How to Navigate Taxes on Cryptocurrencies
5 things to avoid when choosing the best crypto tax software
When choosing the best tax software for crypto, it's important to avoid certain pitfalls that could lead to inaccurate reporting and wheel spinning. Here are some things to avoid:
Lack of integration
Avoid software that doesn't integrate with the cryptocurrency exchanges and wallets you use. Manually inputting all your transactions can be time-consuming and prone to errors. We already discussed how it’s more important to identify the wallets and exchanges NOT supported by the software. You will get relegated to the 80/20 crypto tax rule regardless, so you just want to minimize manual reformatting. This is also why you want to test at least three crypto tax software providers.
Unreliable accuracy
It’s difficult to understand the accuracy and methodology of the software because it’s not audited and there are no standards. Inaccurate reporting could lead to underreporting or overreporting of taxes, resulting in potential penalties or audits. The inaccuracies are most likely to come from the software’s lack of tooling for complex crypto transactions. Crypto trades are the lesser issue, but rather going in and out of an LP position as previously mentioned is where software may come up short.
Key Takeaway
You can also compare and contrast any loss calculations using FIFO (first in first out), for example, among your three software vendors. You will get differences, but the question is how big are those differences? Other than FIFO, software vendor vendors don’t use the same methodology, even if two of them offer the same cost basis method like HIFO (highest in first out).
Failing to consider consumer vs. business software
Most crypto tax software is consumer-based for the individual investor. Software from the first vendors was consumer-grade software. Over time enterprise-grade crypto tax software has emerged to help businesses deal with the unique challenges of accounting for and tracking digital assets.Â
Businesses should use enterprise-grade crypto accounting software or they will pay dearly in the long run. Consumer-grade software was not designed for business use. The vendors will make it fairly clear whether their product is for business use. The price is also a tell-tale sign because consumer software may cost $99 per year, for example, whereas enterprise software may be $250 per month.
Overlooking reviews and reputation
Don't overlook reviews and reputation when selecting crypto tax software. Research user feedback, reviews on reputable platforms, and the company's reputation to gauge the reliability and trustworthiness of the software provider. You can find good chatter on Reddit, Telegram, Discord and similar platforms where people freely express their experiences. This is a great way to potentially weed out vendors in your selection process.
Focusing too much on pricing structure
Pay attention to the pricing structure of the software to avoid unexpected fees or hidden costs. Compare pricing plans, which are typically transaction-based (i.e., the total number of transactions). Of course, you have to know your total transactions to make a comparison so it’s a chicken and egg scenario. The good news is most of the software vendors for crypto taxes provide “free” accounts, which means you can use them until you need a report or tax form. Therefore, you can test one vendor and find out how many transactions you have after importing is complete.
Key Takeaway
Price should NOT be a factor in choosing the right software even though you always want to compare price. The single most important thing is finding software that can handle your crypto tax complexity. If you base your selection on price alone, you will suffer in the long run. Users who only trade, for example, are good candidates for most of the vendors; however, the degens and power users must find the best fit.
By avoiding these common pitfalls, you can select crypto accounting software that provides accurate reporting, robust features, and a user-friendly experience to effectively manage your cryptocurrency tax obligations.
Master crypto tax with a crypto tax course.
Browse CoursesWhat is the best crypto tax software?
This may be the most frequently asked question when people are choosing software for the first time. It’s an unanswerable question because it depends on your specific situation and all crypto tax software has limitations. Choosing software can be like choosing the lessor of the evils rather than choosing the best of the best. The bottom line is determining the "best" crypto tax software can depend on various factors, including:
- Individual preferences
- Specific needs
- The complexity of your cryptocurrency transactions
As with all things crypto, DYOR (do your own reserach). There is no best recommendation because it’s use case-dependent and you have to decide. Here are some popular crypto tax software providers:Â
- CoinTracker - Known for its user-friendly interface and extensive integrations with exchanges and wallets, CoinTracker offers features for tracking portfolios, calculating taxes, and generating tax reports. It supports various tax reporting methods and provides real-time data synchronization.Â
- CoinLedger – Formerly CryptoTrader.Tax, this platform specializes in cryptocurrency tax reporting and offers easy integration with major exchanges and wallets. CoinLedger automates the process of importing transactions, calculating gains and losses, and generating tax reports compatible with tax filing services like TurboTax.Â
- CoinTracking - With robust features for portfolio tracking, tax reporting, and analysis, CoinTracking supports a wide range of cryptocurrencies and exchanges. It offers customizable reports, tax optimization tools, and comprehensive data import options.
- ZenLedger - ZenLedger provides automated cryptocurrency tax calculations and supports integrations with over 400 exchanges and wallets. It offers features for tracking transactions, generating tax forms, and optimizing tax strategies to minimize liabilities.
- TokenTax - TokenTax offers a comprehensive solution for cryptocurrency tax reporting, including support for complex transactions like margin trading and DeFi activities. It provides features for portfolio tracking, tax optimization, and generating IRS-compliant tax forms.
Browse our crypto tax software store for additional vendors and options.
It's essential to thoroughly research each option, consider your specific requirements, and perhaps even test out trial versions to determine which crypto tax software aligns best with your needs. Additionally, staying updated with reviews and industry developments can help you make an informed decision based on the latest features and user experiences.
Selecting the right crypto tax software is paramount for accurately managing your cryptocurrency transactions and fulfilling your tax obligations. Regardless of which crypto tax software you invest in, a crypto accounting software program can streamline the complex process of crypto tax reporting. If you end up choosing software you don’t like or it proves to be inadequate, you can always change.
As always your goal is to get a Crypto Bullseye™.
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