Defi and Taxes – Liquidity Pools

Adding liquidity to a pool can be treated as a taxable sale of the token pair provided. Removing liquidity can be treated as a taxable sale of the liquidity pool token.

With liquidity pools, anyone can participate in the automated market making of a decentralized exchange like Uniswap, Curve or Aave by supplying liquidity to token pairs. For example, you can add liquidity to the USDC-ETH pair on Uniswap and receive a share of this liquidity pool. As a reward, you are entitled to your share of all fees earned by this pool.

When you add liquidity to a pool, you receive a corresponding liquidity pool token (LP-token). On Uniswap V2 it is the Uniswap V2 (UNI-V2) token. From the tax perspective, this can be considered as a taxable sale of each token that you added to the liquidity pool.

When you remove liquidity from the pool, you exchange the LP-token for the two tokens that you receive from the pools. This corresponds to a taxable sale of the LP-token. 

For detailed information on tax reporting of Liquidity Pools and Liquidity Token, please check our full article DeFi Cryptotax Guide: Swaps, Liquidity Pools, and Yield Farming.