The IRS grants temporary relief on cryptocurrency tax reporting rules amid legal challenges

The Internal Revenue Service (IRS) has issued a temporary waiver on cost-based reporting rules for cryptocurrencies, potentially avoiding increased tax liabilities for digital asset investors.

The decision reflects the agency’s recognition of the complexities in taxing cryptocurrencies and the need for regulatory adaptability in response to evolving markets.

Tax exemption

This relaxation postpones implementation of a rule that would have required centralized cryptocurrency exchanges to adhere to the “first in, first out” (FIFO) accounting method for capital gains calculations. FIFO typically assumes that older assets are sold first, which often results in higher taxable gains during market bull periods.

This extension will remain in effect until December 31, 2025, allowing brokers additional time to accommodate different accounting methods.

Investors’ concerns centered around the possibility of ballooning tax bills, as what is paid first could force the sale of assets purchased at lower prices, increasing gains. Shehan Chandrasekera, head of tax at Cointracker, warned that the immediate implementation of FIFO could disproportionately impact cryptocurrency taxpayers, potentially resulting in significant tax burdens.

During the exemption period, taxpayers can choose accounting methods such as highest income, first out (HIFO), or specific identification (SPEC). These alternatives enable investors to choose which assets to sell, providing flexibility and potentially mitigating tax exposure.

Legal challenges

The IRS announcement coincides with growing legal and industry scrutiny over the agency’s evolving approach to taxing digital assets. On December 28, the Blockchain Association and the Texas Blockchain Council filed a lawsuit challenging the IRS’ expanded reporting requirements.

The lawsuit challenges the brokers’ mandate to report all digital asset transactions, including those on decentralized exchanges (DEXs), arguing that the regulations exceed constitutional bounds.

Critics of the IRS’s expanded rules claim they exceed the agency’s authority and impose undue burdens on market participants. Under the expanded framework, scheduled to come into force in 2027, brokers will be obliged to report taxpayer information and disclose gross proceeds from cryptocurrency transactions.

The temporary relief highlights the IRS’s recognition of the volatile nature of cryptocurrency markets and diverse investor strategies. Observers see the decision as a necessary step towards balancing regulatory oversight with the operational realities of the cryptocurrency industry.

The delay is widely viewed by market participants as a constructive development, allowing more time to adapt and comply for the industry.