Crypto Tax – Understanding Yield Farming and Airdrops

Reading Time: 2 minutes
  • Crypto tax can be confusing at the best of times, but yield farming and airdrops brings its own perils
  • Yield farming and airdrops are considered income by the IRS, but there are variances in how they are handled
  • Aidropped and yield farmed tokens are also liable to capital gains

Yield farming and, to a lesser extent, airdrops have been pretty much the only talking point in the crypto markets in the second half of 2020. People have been making money hand over fist through these methods in the past few months, but there is one element that needs to be considered before those gains can be spent on a lime green lambo – tax. As we should come to expect, crypto tax contains areas that make little or no sense, so it’s important to know what you’re likely to have to cough up at the end of the tax year.

Yield Farming Taxation

The Inland Revenue Service (IRS) is notoriously vague when it comes to some aspects of crypto tax, but in yield farming it couldn’t be simpler – anything you earn is considered income. If you think of yield farming as you ‘working the land’ then the extra ETH and other coins you make on top of what you staked will be your pay, pay which must be taxed.

The difficult thing is that the IRS isn’t going to be happy with you listing 2.5 ETH of 2,490 SHROOM as your income – they want dollars. Therefore you’re going to have to note down the dollar value of each payout you get at the time it came in, ready to total it all up at the end of the tax year.

Airdrop Taxation

Airdrops are slightly different in that you have done nothing to earn them, but in crypto tax terms they are still counted as income. The kicker with airdrops is the IRS wants to tax you even if you can’t sell the token or, and this is the best bit, you DIDN’T EVEN KNOW ABOUT IT!

So if you have received a random airdrop to an ETH wallet, you’re going to have to work out its dollar value, even if there is no exchange on which to sell it or even a mechanism by which to obtain its market value. We told you crypto tax was a strange beast.

Crypto Tax Event Clarification

The key thing to remember with crypto tax is that the IRS discerns a taxable event as being when a holder has control and “dominion” over a cryptocurrency, rather than when they exercise their rights to act upon it. In practicality, this means that they care about when it hits your wallet rather than when you sell it, leaving you responsible for knowing the value at the time that happens.

Another key thing to remember from a crypto tax perspective is that once the coin has hit your wallet (and you’ve noted its dollar value) it then becomes an asset liable to capital gains tax. This means that once you sell the coin, assuming you made a profit, you have to pay capital gains tax on the profit as well as income tax for when you received it.

Land of the free, you say?