If you invest in cryptocurrency, the IRS has its eye on you. Over the past few years, the IRS has significantly expanded its efforts to monitor and enforce crypto tax compliance. What started as informal letters has evolved into structured audits, exchange data requests, and enforcement initiatives. For many investors, this has created confusion, stress, and uncertainty, especially when the IRS comes knocking with a tax audit.
You may think you’re safe because you haven’t received a letter, but that doesn’t mean an audit isn’t possible. IRS audits can be triggered by missing information, inconsistent reporting, or even automated risk profiles. And once they begin, they demand detailed records for every wallet, exchange, and transaction you’ve touched.
This guide breaks down exactly what an IRS crypto audit involves and how to prepare for one. From notices to documents, timelines to penalties, you’ll find everything you need to reduce risk, stay compliant, and respond confidently if an audit ever arrives.
Why the IRS Is Auditing Crypto Investors?
In recent years, the IRS has taken a sharper approach to crypto tax enforcement. As digital asset adoption has grown, so has the gap between reported and actual taxable crypto activity. This has prompted the IRS to invest in better tools, stricter enforcement, and closer scrutiny of crypto transactions.
Let’s explore the key reasons behind the IRS’s increased focus on crypto investors.
Read More: Crypto Tax USA Guide
Budget Increase and Expanded Staffing Focused on Digital Asset Compliance
The IRS has received a significant funding boost through the Inflation Reduction Act, with nearly $80 billion allocated to improve enforcement. A portion of this budget is being used to hire agents, forensic analysts, and digital asset specialists. These hires are helping the IRS better detect discrepancies in crypto reporting and identify noncompliant taxpayers more effectively.
Use of John Doe Summons to Gather User Data from Exchanges
To uncover unreported crypto activity, the IRS has issued John Doe summonses to several crypto exchanges. This legal tool compels platforms to share user data, including transaction records and identity verification details. Major exchanges like Coinbase, Kraken, and Poloniex have already been required to comply. These records help the IRS connect blockchain activity to individual taxpayers.
Operation Hidden Treasure and Focus on Closing the Tax Gap
The IRS also launched Operation Hidden Treasure, a task force focused on identifying crypto-related tax evasion. Its goal is to reduce the “tax gap”—the difference between taxes owed and taxes collected—by using blockchain analysis to detect underreported income. This operation reinforces the agency’s commitment to holding crypto investors accountable.
IRS Form Updates (e.g., Form 1040 Digital Asset Question)
Form 1040 now includes a mandatory question about digital asset activity. If you receive, sell, exchange, or dispose of crypto during the tax year, you’re required to answer this question. Inaccurate or omitted responses can raise red flags and potentially trigger further IRS review or an audit.
For a full breakdown of how the IRS taxes crypto activity, visit our Crypto Tax in the USA guide for detailed information on filing requirements and taxable events.
Common IRS Notices That May Precede an Audit
The IRS rarely launches a crypto audit without some form of prior notice. Instead, they often begin by sending informational or compliance letters to taxpayers they suspect may have unreported or misreported digital asset activity. These notices are designed to prompt voluntary corrections and serve as a warning that closer scrutiny may follow.
While not all letters require a response, each one should be taken seriously. Here’s what you need to know.
IRS Letter 6174
This is the least severe of the crypto letters. It’s considered educational and simply informs you that the IRS is aware of your involvement in cryptocurrency. The letter outlines the expectation that you must accurately report crypto-related income, including capital gains and crypto earnings.
No response is required, but this is your opportunity to review past filings, identify any reporting gaps, and amend your return if needed.
IRS Letter 6174-A
This version of the letter has stronger wording. It indicates that the IRS believes you may not have reported some of your crypto transactions properly. While it does not carry a deadline or enforcement threat, it strongly encourages taxpayers to correct any mistakes before formal enforcement begins.
Receiving this letter suggests that you may be at a higher risk of an audit if you do not take corrective action.
IRS Letter 6174-A: Warning of Possible Non-Compliance
Letter 6174-A is more specific than 6174. It is issued when the IRS believes you may have underreported crypto-related income but lacks enough evidence to escalate to a 6173.
While the letter does not include a mandatory deadline, it encourages prompt review and correction of any mistakes. The IRS may initiate additional enforcement if your records are not updated or if errors persist.
If your crypto transactions were reported inaccurately or not at all, use this opportunity to amend past returns. This proactive approach helps avoid penalties in the future.
IRS Letter 6173
This is the most serious notice among the three. It’s sent when the IRS has reason to believe you failed to report crypto income or haven’t filed tax returns at all for one or more past years. You are required to respond within 30 days.
Your options include filing amended returns, submitting delinquent returns, or providing a written statement with supporting documentation that proves your filings were correct. Failure to respond may result in further enforcement, including a formal audit or legal action.
What An IRS Crypto Audit Looks Like?
If you’ve received a crypto notice—especially Letter 6173—it’s a strong indication that the IRS may initiate a deeper investigation. This next step is the audit. While a letter may be a nudge, an audit is a formal review of your tax filings and financial records. Being aware of what happens during an audit can help you respond confidently and avoid unnecessary penalties.
How Will the IRS Conduct Your Audit?
The IRS conducts audits either by mail or in person. If your audit is by mail, the IRS will request specific documents, usually around income, deductions, or crypto-related transactions. This method is used when fewer details are needed or your crypto activity is relatively simple.
In-person audits, known as field or office audits, are more detailed. These take place at your home, business, accountant’s office, or a local IRS office. Field audits typically apply if your case involves large volumes of data or more complex activities such as staking, DeFi, or NFT transactions. You will always receive a notice by mail first, which includes clear contact information and instructions for your next steps.
Documents You’ll Need to Provide
To complete the audit, you’ll be asked to share detailed records. These often include:
- All wallet addresses and blockchain IDs you’ve used
- Exchange accounts and peer-to-peer trading details
- Dates and timestamps for every acquisition and disposal
- Fair Market Value (FMV) and cost basis for each crypto asset
- Sale price or FMV at the point of each disposal
- The cost basis method you used (e.g., FIFO, LIFO, Spec ID)
- Records of income from staking, mining, or airdrops
- Any communications or emails related to crypto transactions
Having these documents ready—and organized—can speed up the audit process and reduce the likelihood of further questioning. The better your documentation, the stronger your position during the review.
How Long Does It Take Take To Have A Tax Audit?
The length of a crypto tax audit depends on the complexity of your crypto activity. If you’ve only made a few trades on a single exchange, the IRS may be able to complete your audit in a matter of weeks. These straightforward cases often involve verifying your reported gains, matching them with exchange data, and checking your documentation.
However, if you’ve engaged in thousands of transactions, used multiple exchanges, or participated in DeFi, staking, or NFT trading, expect a longer review. These audits may last several months as IRS examiners work through detailed records. In such cases, your documents will likely be reviewed by crypto-specialized agents who may reach out for further clarification before concluding the audit.
How to Prepare for An IRS Crypto Audit?
Being prepared is the best way to handle a potential IRS audit. If you’ve received a letter or suspect one may be coming, it’s essential to act early. Preparation will not only speed up the process but also improve your chances of avoiding penalties or further complications.
There are two main approaches you can take: manually compiling your crypto tax records or using crypto tax software to automate the process.
Manually Create Crypto Tax Records
If you prefer a hands-on method, you’ll need to build a detailed spreadsheet of your crypto activity. This spreadsheet should include every transaction from at least the past three financial years. For each trade or transfer, record the date, time, type of transaction, Fair Market Value (FMV) at the time of acquisition and disposal, cost basis, and sale price. If you’ve used multiple wallets or exchanges, you must consolidate this data from various sources, which can be time-consuming and prone to errors.
Use a Crypto Tax App
For a more streamlined and reliable process, consider using a crypto tax app like KoinX. With KoinX, you can sync all your wallets, exchanges, and blockchain addresses using API keys or by importing CSV files. Once connected, the platform automatically pulls your complete transaction history and categorizes every event.
KoinX calculates your capital gains, losses, cost basis, income, and more, then compiles everything into a clear, downloadable tax report. This includes all the information the IRS may request during an audit, saving you hours of manual work and ensuring full compliance.
How Far Back Can a Crypto Audit Go?
When it comes to IRS audits, many taxpayers assume that there’s a strict time limit on how far back the IRS can look. While that’s true in some cases, crypto audits can sometimes stretch further depending on the situation. Knowing these timelines helps you maintain proper records and respond appropriately if the IRS opens a review.
Standard Audit Window: 3 Years
Typically, the IRS has up to three years to audit your tax return after it has been filed. If your crypto activity was properly reported and there are no major issues, your audit will likely stay within this timeframe.
Extended Audit Period: 6 Years
If the IRS suspects that you significantly underreported income—more than 25% of your total gross income—they may extend the audit period to six years. This is especially relevant in crypto, where large gains or staking rewards may go unreported if not properly tracked.
No Time Limit for Fraud or Non-Filing
If the IRS believes you committed fraud or did not file a tax return for a particular year, there is no time limit for how far back they can go. In such cases, the audit can cover any year they choose.
Read More: How To Report Crypto On Taxes?
How to Avoid a Crypto Tax Audit?
While you can’t guarantee immunity from an IRS audit, you can take several proactive steps to reduce your chances. The IRS is becoming more effective at identifying crypto investors who underreport or misreport their gains. Ensuring your filings are accurate and complete is the most effective way to stay under the radar.
Report All Crypto Activity Accurately
The IRS requires that you report all taxable events, including sales, trades, conversions, staking rewards, mining income, and airdrops. Use Form 8949 and Schedule D to report capital gains and losses, and Schedule 1 or Schedule C for crypto income. Make sure these details align with your Form 1040 response to the digital asset question.
Stay Consistent with Cost Basis Methods
Whether you use FIFO, LIFO, or Specific Identification, apply the same method across all transactions. Switching methods without documentation can trigger audits or rejections. Consistency in cost basis reporting helps show that your filings are intentional and compliant.
Avoid Filing Red Flags
Large losses, unusually high deductions, or inconsistent income patterns can trigger IRS interest. If your income changes significantly from year to year, include supporting documents or explanations with your return. The IRS is more likely to question gaps that lack context.
Double-Check Your Calculations
Mistakes happen—but they don’t go unnoticed. Before submitting your tax return, review every crypto entry to ensure the math checks out. If you’re using tax software or spreadsheets, double-check your formulas and ensure your total income matches reported earnings.
Maintain Thorough Records
Keep all documents related to your crypto transactions—wallet histories, exchange reports, receipts, smart contract logs, and communication with counterparties. The IRS can audit up to six years back, or indefinitely in cases of suspected fraud.
Use Crypto Tax Tools
Using a crypto tax platform like KoinX reduces the risk of errors. It helps track every transaction, categorize it according to IRS rules, and calculate your gains, losses, and income. This level of accuracy and organisation can make your filing more audit-resistant.
How KoinX Can Help You Stay Audit-Ready?
If you want to stay prepared for an IRS crypto audit, using a reliable crypto tax solution can make all the difference. KoinX simplifies tax compliance by helping you organize, track, and manage every aspect of your digital asset portfolio, ensuring that you’re always audit-ready.
Automatic Transaction Import and Classification
KoinX connects with all major crypto exchanges, wallets, and blockchains through API integration or CSV uploads. It automatically fetches your complete transaction history and categorizes each activity—whether it’s a trade, staking reward, airdrop, or DeFi transaction. This helps maintain accurate and up-to-date records across platforms.
Real-Time Gain, Loss, and Income Tracking
The platform calculates your capital gains, losses, and crypto income in real-time. It applies accepted cost basis methods like FIFO, LIFO, and Spec ID to help you stay compliant with IRS rules. These calculations are essential for accurate tax reporting and audit defence.
Centralized, Accessible Reports
With KoinX, you can access all your transaction records in one place. You can generate reports to understand your tax position and keep them ready in case the IRS requests supporting documentation.
For crypto investors looking for peace of mind, KoinX offers a practical way to stay prepared for any tax review.
Conclusion
Crypto audits aren’t going away. They’re becoming more common as the IRS increases its visibility and enforcement efforts. But that doesn’t mean you have to worry—being prepared is your best defense.
When you understand what to expect and take proactive steps to maintain accurate records, a crypto audit becomes manageable. Use tools like KoinX to simplify your recordkeeping and stay compliant year-round. And if you ever receive a letter or notice from the IRS, you’ll be ready to respond clearly and confidently. So get started with KoinX today and make your crypto taxes easier than before.
Frequently Asked Questions
Can The IRS Audit Crypto Earned Through DeFi Platforms?
Yes, the IRS can audit income and transactions related to DeFi platforms. This includes earnings from liquidity pools, yield farming, and token swaps. Even if these platforms are decentralised, your wallet activity is traceable. Ensure you keep clear records of all DeFi interactions, including the nature of the transaction, token values, and counterparties involved.
Do Stablecoin Transactions Fall Under IRS Audit Review?
Yes, stablecoin transactions are treated like any other crypto asset by the IRS. Buying, selling, or exchanging stablecoins can lead to capital gains or losses. If you earn income in stablecoins, it’s also taxable. Auditors will assess these transactions the same way they examine those involving volatile cryptocurrencies like Bitcoin or Ethereum.
What Happens If I Can’t Provide Old Crypto Transaction Records?
If you can’t produce records, the IRS may use exchange-reported data or estimates based on available information. This could lead to inaccurate tax assessments or penalties. It’s best to retrieve data from exchanges or wallets and reconstruct records using available transaction history, blockchain explorers, or bank statements, wherever possible.
Are NFTs Included In IRS Crypto Audits?
Yes, NFTs are considered digital assets and are subject to the same scrutiny as other cryptocurrencies. If you’ve bought, sold, or minted NFTs, these transactions may be reviewed in an audit. Gains from NFT sales are usually treated as capital gains, while income from NFT creation or royalties is considered ordinary income.
