I don’t quite understand the other answer. If you are buying and holding cryptocurrency for investment purposes, then you must claim a capital gain on schedule D if you sell the cryptocurrency for more than your cost basis, and you can claim a capital loss if you sell the cryptocurrency for less than your cost basis. Capital losses can be used to offset other capital gains. If you have no other capital gains, you can deduct $3000 of your capital loss against other income, with the remainder carried forward over year over year until it is used up against other capital gains or against other income.

Your problem is the idea that you are not “likely“ to recover more.

You don’t have a capital loss until you either sell the cryptocurrency, or it becomes definitively worthless. As long as there is a possibility that you will recover a portion of the investment in a bankruptcy proceeding, you can’t declare a total loss. For 2023, you would report as a gain or loss, the shares that you actually sold and either converted into another cryptocurrency, or back into cash. If you still have tokens or shares outstanding, that might have some dollar value in a bankruptcy proceeding, you have to wait until the bankruptcy proceeding is completed. Then, you can report the final disposal of your tokens or shares using the price you originally paid as the purchase price, and the final payment from the bankruptcy as the selling price. If you receive less than you originally invested, that creates a capital loss.

If you receive more than you originally paid, but less than the cryptocurrency was theoretically worth at some point, you still have a capital gain. Your capital gain or loss is determined by comparing what you originally invested against what you ultimately received, not what you might have received under the best possible circumstance.

A Ponzi scheme is different. In a Ponzi scheme, you may have reported taxable income in past years on capital gains from sales or trades of cryptocurrency that didn’t actually occur. In this case, you can deduct a loss because you originally paid tax on income that didn’t exist. Ponzi scheme losses are a special category of tax loss, and you probably will need an accountant’s help.

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Opus 17

Employee

Lastly, I feel compelled to raise the issue of theft. Under current tax law, a theft loss is not deductible. The difference between a theft loss and an investment loss is not always clear, but one of the principles the IRS uses is that in a theft loss, there must be an actual thief. I know that in some cryptocurrency scams, the founder pumps up the value of a brand new currency and disappears with the initial investments in just a few days or weeks. On the other hand, a cryptocurrency exchange which is an honest attempt to create a new business, but which fails because the founders can’t run the business properly, is more likely to be treated as an investment loss. If your funds were stolen, the IRS is likely to deny any attempt to deduct the loss under current tax law. (But Ponzi scheme losses are still deductible to the extent that you previously paid tax on earnings that didn’t actually exist.) You may want to have your situation reviewed by an attorney or a tax accountant who is familiar with the law, and with the legal situation of this particular exchange.

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KamS2Author

Thank you for all the answers. I was able to recover all the crypto from my Wallet, but not from the Interest account on that exchange, as they used these assets for other investments and they don't even have them anymore. They are trying to recover their investments and pay back cash to the clients, although it will probably be only a fraction of the money owned. I assume that's exactly the scenario you described and I have to wait for the recovery update. Is that correct?