Impermanent loss is the gap between the value of a liquidity position and the value of simply having held the same two assets in your wallet. It appears when the prices of the pooled assets move apart, and it is called impermanent because it can shrink again if those prices come back together.
An automated market maker keeps a pool balanced to a formula. When the market price of one asset moves, traders buy the cheap side out of the pool and sell the expensive side into it until the pool matches the market. Those trades leave you holding less of the asset that rose and more of the asset that fell.
The effect runs in one direction. Any price movement away from your entry ratio produces it, up or down, and the further prices diverge the wider the gap. Trading fees and liquidity mining rewards run against it, which is why a pool can be profitable overall while the underlying position still lags a simple hold.
You deposit 1 ETH and 3,000 USDC. ETH doubles. Your withdrawal returns roughly 0.7 ETH and 4,200 USDC, worth about $8,400. Holding the original 1 ETH and 3,000 USDC would have left you with about $9,000. The $600 difference is the impermanent loss. Fees earned across the period reduce it, and can cover it entirely.
Not on its own. Impermanent loss is a comparison against a position you did not take, and US tax rules do not recognise a loss on that basis. There is nothing to deduct while the position is open.
What is deductible is a realised loss. When you withdraw from the pool you dispose of the position, and gain or loss is measured against your cost basis in it. If the assets coming back are worth less than the basis you carried in, that loss is realised and reportable at that point. Impermanent loss is the reason the figure often comes in lower than expected. It is never the deduction itself.
Capital losses offset capital gains, and up to $3,000 of net capital loss can be applied against ordinary income in a year, with the remainder carried forward.
The realised loss is only right if the cost basis carried into the position is right. Where a deposit was recorded with a missing or zero basis, the loss disappears from the calculation and a gain frequently appears in its place. Clients come to us convinced they lost money on a pool while their report shows a gain, and the cause is usually a broken basis chain rather than the pool.
Read our 2026 Guide to DeFi Taxes
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