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Adjusted Cost Base and Superficial Loss Rule Crypto Taxes

General

Canada: Adjusted Cost Base & Superficial Loss Rule

Last updated: Wednesday, 24 November 2021

So you know crypto is taxed and how it's taxed in Canada (if you don't, read our Canada crypto tax guide) but you're completely lost when it comes to actually calculating your crypto taxes and all the jargon that comes with it! Don't panic, in this guide we're covering everything you need to know about cost base, adjusted cost base, allowable accounting methods in Canada, wash sales and the superficial loss rule. Let's go!

How do you calculate crypto taxes in Canada?

You need to report any crypto gains or income to the CRA, but to do that, unsurprisingly, you need to be able to calculate them. There's different methods for calculating crypto income and crypto gains, so we'll cover both.

Calculating crypto income

It's super easy to calculate crypto income - although time consuming if you're not using a crypto tax calculator. All you need to do is take the fair market value of the coin/token on the day you received it in CAD. You can do this manually by going through historical price aggregators like CoinMarketCap or CoinGecko, but if you're receiving regular rewards, via staking for example, this is pretty time consuming. Fortunately, Koinly can do this for you.

Calculating crypto gains and losses

Calculating crypto gains and losses can get a bit more complicated, but you need to start by knowing your adjusted cost base, which you then subtract from your sale price, or the fair market value of your crypto if otherwise disposed of. If you have a profit, you have a capital gain. If you have a loss, you have a capital loss.

What is adjusted cost base?

In accounting terms, a cost base is how much it cost you to acquire your crypto. So most often the purchase price, or sometimes the fair market value on the day of the acquisition if you otherwise acquired the crypto.

An adjusted cost base is a fairer reflection of what your asset actually cost you - the cost base is adjusted (hence the name!) to include any expenses related to your asset, like trading fees.

Adjusted Cost Basis Canada

Most crypto investors know that trading fees on some exchanges (or indeed gas fees when the Ethereum network is congested!) can feel astronomically high. This means when you later dispose of your crypto by selling, swapping, spending or gifting it, and you subtract your adjusted cost base from your sale price, you'll have a more accurate reflection of your realized gain or loss.

Capital Gain Formula Canada

Of course, this works both ways. So if you acquired your crypto asset for free and it wasn't considered income, for example through an airdrop, your adjusted cost base for your crypto would be $0. When you later dispose of that asset, your entire proceeds will be considered profit and therefore a taxable gain.

Allowable expenses

Not all expenses related to your asset are allowed to be added to your adjusted cost base - only costs directly related to the acquirement/disposition of your asset. In general this means:

  • Trading fees: Allowed.
  • Transfer fees: Likely not allowed as you are merely moving the asset between your own wallets, even if that is to later dispose of it.
  • Gas fees or network fees: Allowed, provided they relate directly to the purchase/sale of an asset.
  • Margin fees and interest payments: Generally allowed, provided these relate to crypto margin trading directly.

Good to know
Interest expenses related to borrowing on a DeFi platform will not be deductible against capital gains. In Canada, where borrowing to buy an asset (which only generates capital gains), the interest cost is not deductible against the capital gain. But, when borrowing to invest in something which generates income, the interest can be deducted against that income.

Average Cost Basis Method

All pretty straight forward so far, right? Well, as with all things crypto tax... things are rarely this simple for most investors. The reality is most investors are selling, swapping and even spending multiple crypto assets in a single financial year. Let's use an example to highlight the immediate problem most investors face.

You buy 2 ETH in 2019 for $500 each. You buy another 1 ETH in 2021 for $3,000. You then sold 1 ETH in 2022 for $2,000. How do you know which adjusted cost base to use to calculate your gain or loss? If you use your adjusted cost base from 2019 - you have a $1,500 capital gain. If you use your adjusted cost base from 2021, you have a $1,000 capital loss.

This is where an accounting method comes in, and for Canadian investors the only allowable accounting method is Average Cost Basis (ACB).

The CRA says that when you're dealing with identical properties - like crypto or stocks - you need to calculate the average cost of property to calculate any subsequent gains or losses.

To do this, take the total cost of a group of identical crypto assets (i.e. ETH or BTC) and divide it by the number of assets you own.

So in our example above, using the ACB method to dictate our adjusted cost base, you would add up the total cost of your ETH, giving you $4,000, then divide this by the total amount of ETH owned, giving you $1,333.34. This would be your adjusted cost base, which you can then subtract from your sale price of $2,000, meaning you had a capital gain of $666.66.

Wash Sales and the Superficial Loss Rule

Incase you haven't noticed it already - the adjusted cost basis method is easily manipulated.

n theory, investors could simply sell multiple assets at a loss in a given pool and immediately buy them back to create artificial losses to reduce their tax bill. This is what's known as a wash sale and the CRA has a specific rule to prevent it - the superficial loss rule.

Say for instance, it’s close to the end of the tax year, and an investor has so far made substantial capital gains on their crypto, which tax will be due on. However, they're are also holding an asset which has lost value. They want to keep holding this asset (because they believe it will appreciate in the long run), but they also want to take advantage of the loss made so far to reduce their capital gains taxes.

So they decide to sell the asset - this is a taxable event which triggers a capital loss which can be allocated against their capital gains for the year, reducing their overall taxes.  But because they want to continue holding the asset, they buy it back the next day for the same price they sold it for.

The superficial loss rule prevents these scenarios. The CRA says the superficial loss rule kicks in when both of these conditions are met:

  • The taxpayer (or someone acting on their behalf) acquires cryptocurrency that is identical to the one that they dispose of, either 30 days before or after the disposal, and
  • At the end of that period, the taxpayer or a person affiliated with the taxpayer owns or had a right to acquire the identical property.

The Superficial Loss Rule crypto

If an investor meets these conditions, they're unable to offset it against their gains from the year.

Let's take a look at an example to explain.

EXAMPLE

John buys 100 ETH on the 6th of Jan 2019 for a total price of $5,000. In November of the same year, he sells them at a loss, for $3,000.

To spare you the math here, we will simply enter these transactions into Koinly which will calculate the gains:

Koinly example of crypto gains calculation

So, John made a loss of $2,000 (who would have guessed?!)

Now, John thinks he is pretty clever so he decides to buy the ETH back the next day (for the same price) but... you guessed it.

loss calculation

The superficial loss rule zeroes out his loss from the previous day.

Basically what has happened is that the $2000 loss John made on the 3rd of November was added to his cost basis for the coins he repurchased the following day. This effectively nullifies any tax advantage that John thought was possible by selling at a loss before quickly rebuying. 

In order to avoid the application of the superficial loss rule, John would have to wait 30 days following the sale on the 3rd November before rebuying his ETH.

How Koinly Can Help

Hopefully, you now have a better idea ACB and the Superficial Loss Rule and how it applies to your tax returns. If you’re looking for more details on crypto taxes in Canada, you can check out our free Crypto Tax Guide for Canada. It not only discusses all the crypto-related tax provisions, but also advises you on how you can plan your taxes better and legally reduce your tax bill.

If you are planning on filing your taxes then make sure you also try out Koinly - which is a crypto tax calculator that fully complies with the CRA's crypto tax guidance. Koinly calculates all your crypto taxes for you using the ACB method and taking into consideration the superficial loss rule.

Koinly Canada Cost Basis Methods

Once you've synced all the crypto wallets, exchanges or blockchains you use with Koinly, all you need to do is head to the tax reports page where you'll find a simple summary of your crypto taxes - and tax reports to download and submit to your tax authority. For Canadian investors, Koinly offers a variety of reports including the Complete Tax Report, TurboTax Report, Schedule 3 and more, depending on how you prefer to file.

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