You are able to write off worthless crypto and NFTs if you can show you have permanently discarded them. The simplest way to do this is usually to send them to a null address.
The Volatility of Crypto Assets
If you’re only buying assets associated with major crypto projects, you’ll probably never run into this issue. The crypto market is of course extremely volatile, but Bitcoin isn’t going down to zero and neither are any of the CryptoPunks. You might sell them for a loss, but they’ll still have value and you’ll be able to sell them for something.
But, if you’re investing in brand new projects/are hoping for moonshots, this is probably something you’ve experienced. What do you do if the project you invested in went completely belly up? The NFTs or tokens associated with the project that you purchased are now worthless, so no one is going to buy them from you.
And in the case of NFTs specifically, there could be circumstances where the project is still technically alive, but you have no ability to dispose of the asset via a sale. As an example, let’s say a project has taken a 99% hit since you invested. If you purchased tokens, you may still be able to sell them on an exchange – albeit for a massive loss. It’s much less likely you’ll have that ability with an NFT given how illiquid they are.
Writing Off Worthless Tokens and NFTs
So how can you write off these losses?
Like most things crypto-related, the IRS hasn’t issued any blockchain-specific guidance on these situations. Thankfully, we have some very clear-cut principles we can apply from stocks and other traditional investments.
Pub 550 gives guidance on writing off worthless securities. It notes that:
“Stocks, stock rights, and bonds (other than those held for sale by a securities dealer) that became completely worthless during the tax year are treated as though they were sold on the last day of the tax year. This affects whether your capital loss is long term or short term.
Worthless securities also include securities that you abandon after March 12, 2008. To abandon a security, you must permanently surrender and relinquish all rights in the security and receive no consideration in exchange for it. All the facts and circumstances determine whether the transaction is properly characterized as an abandonment or other type of transaction, such as an actual sale or exchange, contribution to capital, dividend, or gift.”
Section 1.165-2 gives similar guidance on the “allowance of deduction” for obsolete nondepreciable property. It notes that:
“A loss incurred in a business or in a transaction entered into for profit and arising from the sudden termination of the usefulness in such business or transaction of any nondepreciable property, in a case where such business or transaction is discontinued or where such property is permanently discarded from use therein, shall be allowed as a deduction under section 165(a) for the taxable year in which the loss is actually sustained. For this purpose, the taxable year in which the loss is sustained is not necessarily the taxable year in which the overt act of abandonment, or the loss of title to the property, occurs.”
For most NFT and crypto investors, they meet the initial criteria. They were investing with the intent to make a profit, the project suddenly lost its value, and of course blockchain assets are nondepreciable.
Final Step: Abandoning the Property
The final step that you need to take in order to write off the loss is the one that many crypto investors miss: the actual abandonment of the property. The tokens/NFTs may be worthless, but until you relinquish all rights to the property, you are unable to write off the loss.
Abandoning the property is pretty simple – you just need to send the tokens or NFTs to a dead address. This shows you have permanently abandoned them and have no ability to recover the assets. The only downside to this is the gas fees – especially if the assets are on ETH. If you have a several thousand dollar loss, the benefits from the tax deduction more than offset the gas fees. But if you have a $100 position that went to zero, spending $50 on gas fees doesn’t really make much sense. In those cases, you’re probably better off just leaving the tokens in your wallet and hoping that the project gets resurrected – however unlikely that may be.
Any accounting, business, or tax advice contained in this communication, including attachments and enclosures, is not intended as a thorough, in-depth analysis of specific issues, nor a substitute for a formal opinion, nor is it sufficient to avoid tax-related penalties.
