How the Ethereum Merge Impacts Your Tax Bill

Wondering whether the Ethereum Merge will impact your tax bill? 

While the Ethereum Merge took place in September 2022, many investors are still unsure how to report their existing Ethereum and newly-earned staking rewards on their tax returns.

Our team of tax professionals has spent time analyzing how the IRS may tax the Ethereum Merge based on existing guidelines. In this guide, we’ll break down the tax implications of the migration — whether you’re holding, staking, or planning to sell.

What is the Ethereum Merge (or Ethereum 2.0)?

The Ethereum Merge (previously called Ethereum 2.0) is an upgrade to the Ethereum blockchain, designed to lower gas fees and increase transaction times. Among other changes, the migration will change Ethereum from a Proof of Work (PoW) to a Proof of Stake (PoS) blockchain. 

Proof of Work uses the computational power of miners to secure and validate the blockchain’s network, while Proof of Stake requires ‘stakers’ to lock up their cryptocurrency to secure and validate transactions on the blockchain’s network.

Prior to the official Merge event, the Ethereum network deployed the Beacon Chain, which allows validators to stake their Ethereum and earn rewards. However, staked Ethereum and associated rewards could not be transferred or withdrawn until the Shapella upgrade in April 2023.

Is the Ethereum Merge a taxable event?

It’s reasonable to assume that you will not incur a taxable event simply for holding your Ethereum through the Merge. 

Typically, you pay tax when ‘dispose' of your cryptocurrency or 'earn' cryptocurrency income. Holding your existing ETH through the Merge does not fall into either category. While the blockchain is going through an upgrade, your Ethereum coins will continue to hold the same rights and responsibilities as before. 

As the IRS made clear in their 2019 cryptocurrency revenue ruling, cryptocurrency forks — like the Ethereum Merge — are only taxed when holders receive new units of crypto.

What happens if I receive new units of cryptocurrency after the merge? 

While you won’t be taxed for holding your existing ETH, you will be taxed if you receive new units of crypto after the Merge. 

It’s possible that Ethereum miners will maintain a Proof of Work version of the Ethereum blockchain, and airdrop existing holders of ETH this ‘new’ PoW-based cryptocurrency. 

If you receive units of PoW-based Ethereum after the Merge, you’ll recognize income based on its fair market value at the time of receipt.

What taxes will I pay when I sell Ethereum? 

Your cost basis and your holding period from your original ETH holdings will transfer over to your upgraded ETH post the Merge.

This means that whenever you sell or dispose of your upgraded ETH in the future, you trigger a capital gain tax event where you will realize a gain or loss depending on how the price of your ETH has changed since you originally received it.

Is staking ETH a taxable event?

As discussed in our guide to cryptocurrency staking taxes, crypto that is earned from staking is generally treated as income equal to its fair market value at the time it is received. 

Investors did not have the ability to un-stake their ETH from the blockchain until the Shapella upgrade in April 2023. Crypto tax professionals and attorneys within the Ethereum community have debated whether staking rewards trigger income at the time they are “earned”— or the time they can be freely traded and withdrawn.

At this time, this is a grey area in the tax code. There is no clear guidance from the IRS or other tax authorities on this matter. As a result, investors take different approaches to reporting staking rewards on their taxes depending on their risk appetite. 

Let’s walk through a few different approaches to reporting ETH staking rewards before and after the Shapella upgrade.

Most conservative: Report all your staking rewards as income at the time they were accrued — even if you earned your rewards before the Shapella upgrade and did not have the ability to freely withdraw and trade them. 

More aggressive: Report your staking rewards as income only if you have the ability to freely withdraw and trade your crypto. Staking rewards earned prior to April 2023 should only be recognized as income at the time of the Shapella upgrade. 

Most aggressive: Report staking income — before and after the Shapella upgrade — as income only when you un-stake it from the blockchain. 

If you’re unsure how to report your ETH staking rewards, you should speak to your tax professional about the best approach for your situation.
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Are ETH staking rewards taxed when you sell?

Regardless of which method you choose to report your staked ETH rewards, your cost basis will be equal to the fair market value of your coins at the time you recognize income. 

That means that when you dispose of your staking rewards, you incur a capital gain or loss based on how your crypto has changed in value since you originally ‘received’ it.

For a complete overview of how cryptocurrency taxes work, check out our Ultimate Crypto Tax Guide.

Is trading ETH for cbETH a taxable event? 

Coinbase offers the ability to wrap staked ETH for cbETH — a liquid cryptocurrency that could be traded even before the Shapella upgrade. 

Because cbETH has different rights and responsibilities than ETH, it’s reasonable to assume that cbETH will be considered a separate cryptocurrency. As a result, wrapping ETH to cbETH will likely be considered a taxable crypto-to-crypto trade. 

However, the IRS has not yet provided guidance on how wrapping cryptocurrency is taxed. As a result, some investors opt to take a more aggressive approach to reporting ETH-to-cbETH transactions. 

Conservative approach: The conservative approach is to treat wrapping ETH for cbETH as a taxable crypto-to-crypto trade subject to capital gains tax. 

Aggressive approach: The aggressive approach is to treat wrapping ETH for cbETH as a non-taxable event. 

If you’re unsure how to report cbETH on your tax return, you should speak to your tax professional. 

For more information, check out our guide to wrapped cryptocurrency taxes.

How crypto tax software can help 

Cryptocurrency tax software like CoinLedger can save you hours of time and effort this tax season.

CoinLedger can automatically import your transactions from blockchains like Ethereum and exchanges like Coinbase. Once you’re done importing your transactions, you can generate a comprehensive crypto tax report with the click of a button.

Get started with a free account today.