Cost basis is the amount you originally paid. When you sell, your gain is proceeds minus basis, and which units you sell determines which basis comes off. Choosing badly costs real money.
Why the choice exists
Buy 1 ETH at $1,000, then1 ETH at $3,000, then sell 1 ETH at $2,000. Which $1,000 or $3,000 do you claim? The answer changes your gain by $2,000. Since gains face tax rates up to 37% in the US, method selection is one of the largest levers available to a crypto taxpayer.
FIFO — first in, first out
The oldest units are sold first. Available nearly everywhere, and the default in most accounting software.
FIFO tends to leave higher basis in the remaining holdings, which means lower basis is recognised sooner and taxable gain is typically higher. In a bull market this is the expensive choice.
LIFO — last in, first out
The newest units are sold first. Not permitted for crypto in the US, since the IRS has taken the position that crypto must follow stock rules where LIFO is disallowed. Available in some other jurisdictions.
LIFO recognises the most recent cost, which in a rising market produces lower gains. If your tax adviser mentions it for a US filer, that is a red flag.
HIFO — highest in, first out
Sell the highest-cost units first, leaving the cheapest basis in the portfolio. This produces the smallest gain on the current disposal and is the most favourable method available to a US filer, because the specific identification rules it relies on do apply to crypto.
HIFO is usually available in the UK under specific identification too. It also creates a deferred gain problem: the low-basis units remain, so the tax simply moves to a later disposal rather than disappearing.
Specific identification
You specify exactly which units you are selling. Permitted in the US if you can actually identify the units and have contemporaneous records of the acquisition. Requires a wallet or platform that preserves lot-level data — most exchanges do not, which means the identification has to be reconstructed.
Specific identification and HIFO overlap: HIFO is a shortcut for specific identification when you always want the highest lot.
Which methods are allowed where
| Method | US | UK | Notes |
|---|---|---|---|
| FIFO | Allowed | Not used | UK mandates a single pooled average |
| LIFO | Not allowed | Varies | Disallowed for crypto under stock rules |
| HIFO | Allowed | Allowed | Via specific identification |
| Specific ID | Allowed | Allowed | Requires lot-level records |
| Pooled average | No | Mandatory | UK share pooling is not optional |
The UK position is the outlier. Pooling is mandatory, so there is no method to select. Every unit of a given token shares one average cost, whatever you paid for each lot.
Why this gets harder with DeFi
Adding a token to a liquidity pool is a disposal of the token and a receipt of the LP position. If the pool contains ETH and USDC, and you remove it later, you are disposing of a mixed asset. Most pools do not let you identify which units went in.
For these cases specific identification is often impossible, which pushes you toward pooled or default treatment. This is a genuine limitation, not something a better tool solves.
Changing method mid-history
US rules allow a change of method for crypto, subject to the wash sale rules and with consistent application. Practically it is much simpler to pick a method at the start of your history and hold to it. Retroactive changes invite questions about whether you are applying hindsight to past gains, which is exactly the argument the IRS makes when disallowing losses.
Practical advice
Whichever method you choose, apply it consistently across every transaction and every exchange. Inconsistency is what generates amended returns and audit attention. Tools that support method selection let you change it, but the value of that feature depends entirely on whether you use it deliberately rather than opportunistically.
This is general information, not tax advice. Method rules vary by jurisdiction and individual circumstances — confirm your position with a qualified tax professional.