A Complete Guide To Cryptocurrency Taxation
Bitcoin, arguably the most popular and indeed the most successful cryptocurrency was launched on the market in 2009. Now, there are over 1,600 cryptocurrencies and digital tokens flying about the market. Where there has been a rise in cryptocurrency, there has also been a rise in the number of people who are willing to sell, trade and invest. This isn’t surprising since the virtual currency is secure from hacks, provides fast trading options and some are incredibly valuable. Despite the fact that the currency virtual, the taxes investors face are very real. Anyone who is interested in investing or trading any form of cryptocurrency should be aware of the taxes that can apply here. You also need to be aware of how they can declare these transactions on a self-assessment tax return. Does this sound like something that you need to know? If so, you should read on.
What Is Cryptocurrency?
This is a complex question. It depends if you are looking for a simple answer or a more in-depth description of how it actually works. For those who are looking for a simple explanation, the best way to think about it is as a virtual currency. Even though you cannot touch it, it can still be used to purchase goods. As well as not being physical, there is no central bank for this type of currency, and it is not supported by a government. Despite all of this, the currency does have value and can be used to make purchases if the seller accepts this type of currency.
The more complex explanation of cryptocurrency is that it is an encrypted and decentralised form of currency. All of the transactions will be made, and the relevant information will be stored on a public ledger. This ledger will keep the identities of the user secure and mostly anonymous, as well as their cryptocurrency balance and a record of genuine transactions. This is similar to how a bank would store information. However, there are some differences. A bank has the authority to access records of the financial transaction and the identity of the users of the involved.
In contrast, with cryptocurrency, the transaction can be verified through a public ledger, but nobody has the authority to know the identity of the individuals involved. The blockchain is a very common public ledger that is used to record transactions. The details of the transaction are stored and added to the next block in the chain while being secured by cryptography.
Official HMRC Guidelines And Implications For Taxing Cryptocurrency
As of yet, there is no policy that is set in stone when it comes to the taxation of these cryptocurrencies. With over 1,600 of these currencies available to use, there are a lot of questions being asked about what happens when it comes to taxing them. However, there is a certain level of guidance to be aware of. The government released HM Revenue and Customs Brief 9 in 2014 which covers Bitcoin, but this has not been updated. There are various ways that you can use cryptocurrency and this brief highlights the importance of individual factors when determining the position in a case. Here are some of the treatments included in the brief.
The brief states that the VAT treatment must be consistent with any future implementations that may go on in Europe due to VAT being a European tax. Because of this, income from Bitcoin mining activities will be outside of the scope of VAT as there is an ‘insufficient link between any services provided and any consideration received’.
If Bitcoin is traded for Sterling or any other currency, there will be no VAT on the value of the Bitcoin.
Any income that is received by miners for activities such as the verification of specific transactions for which specific charges are made will be exempt from VAT under Article 135(1) (d) of the EU VAT Directive.
Charges made above the value of the Bitcoin for carrying out/arranging a transaction in Bitcoin will be excluded from VAT under Article 135 (1) (d) of the EU VAT Directive.
However, VAT will be due as normal from anyone who supplies goods or services that are sold in exchange for any sort of cryptocurrency. The VAT that will be due will be determined by the sterling value of the cryptocurrency at the time of the transaction.
CT, IT and CGT
Whether the income received from, and any charges that are made in connection with the activities involving bitcoin will be subject to CT, IT or CGT taxes will depend on the activities. Cases will be looked at on an individual basis to see whether any profit is chargeable and if any loss is allowable. The correct legislation will be applied to each case to determine the right amount of tax.
Corporation Tax (CT) – The general rules for foreign exchange apply for the tax treatment of virtual currencies. The government have not set specific rules for cryptocurrency as the general consensus in government is that it is not necessary. This means that the profits and losses on exchange movements between various currencies are and will be taxable. Exchange movements are usually determined by the companies functional currency and the other currency. The profits and losses of any company that enters into a transaction that involves Bitcoin would be shown in their account records and taxable under regular CT rules.
Income Tax (IT) – All profits and losses from Bitcoin transactions must be shown in account records and will be taxable under normal IT rules. This is true for any non-incorporated business.
Chargeable Gains: CT (CGT) – Typically a loss or profit for a currency contract outside of trading of profiles or existing in the loan relationship would be taxed or marked as a loss for both CT and CGT. With cryptocurrency, things are slightly different. These are allowable and chargeable under CGT if they are received by an individual and under CT if they are received by a company.
Generally speaking, HMRC believe that any tax on transactions involving cryptocurrency will be clear and straightforward. For instance, there should be no difference where crypto has been traded for cash at arm’s length for any other item where value can be determined.
Many people are worried about how HMRC will handle crypto where value is not clear. This is understandable as cryptocurrency is far more volatile compared to other currencies. For instance, in December 2016, Bitcoin was worth $776. By December 2017 the currency was worth $18,000 with a rise of 2,219%.
HMRC have stated that they do have specialist valuers to handle this issue. These professional accredited individuals will use generally accepted valuation principles to find a market value for the crypto that is being taxed even where one is not apparent.
What about post-transaction valuations? If this is for capital gains purposes, it is possible to provide a CG34 form to them and gain an official valuation.
There are definitely limitations within the response HMRC has provided for crypto traders. First, their guidelines only actually cover Bitcoin. So, if an individual filed a smaller currency, it’s possible they would claim the guidelines does not apply.
HMRC On Different Activities
You will find that how you are taxed for crypto does depend on the activities that you are involved in. This will determine whether you are liable for CGT, IT or CT. Be aware that HMRC do recognize that there are transactions that are speculative enough not to warrant taxation and cryptocurrency could fall into this category, depending on the size and value. However, not all cryptos are determined to be highly speculative.
You need to understand what your activity is classed as.
If the crypto investment can be classified as speculative, it will not be taxable. The HMRC directly compared this to gambling profits in Brief 9. Be aware though, for this to be relevant it needs to meet the definition of what is essentially a bet. It’s difficult to argue that crypto is a bet because it’s far more controlled and not based on winning or losing in an event.
If you are spending the crypto for goods and services, then you are eligible to treat it as personal use or speculative. If that’s the case, you will not be expected to pay any tax according to requirements of the HMRC. It operates in the same way as buying foreign currency to spend on a trip or vacation.
If you are operating in a way where it can not be classified as either speculative or personal use, it must be considered an investment. In this case, expect a tax of 10% or 20% for CGT as an individual and a CT of 19% for business. Since this is an investment and not a trade, then you can expect certain levels of business relief to be available.
If your crypto investment is counted as a trade, then you can expect gains on crypto to be treated as such, and therefore you will need to pay Income tax. Or, it could be taxable as a capital gain. That would lead to a tax of 20/45/45% and could also include National insurance. However, it’s not all bad news because if it is considered a trade, that means you can gain access to trade losses. Ultimately, it’s now being treated as an official taxable trade which does bring this benefit.
As you might expect, there have been no cases thus far of a cryptocurrency activity that has been treated as a trade. This is largely due to the fact that that ‘Badges of Trade’ applies here. You need to understand that the idea of a taxpayer being able to claim on losses for that year against the previous year would be a massive financial headache for the HMRC. As such, they will avoid this, and the typical presumption is that someone dealing with crypto is not completing a trade, mimicking the position of the HMRC for activities on shares.
That said, if there is evidence to suggest it was a trade, the situation could theoretically change. For instance, if there is a business plan and a particular strategy, the HMRC might see the situation differently. So, while the general stance is that activities are not a trade, this position could change without warning.
While it is clear that mining is not impacted by VAT, it is thus far unclear as to whether or not this level of participation will be taxed. Again, it’s about how the activity is classified by the HMRC. If an individual is being paid for their services and the services are organised for commercial purposes there is a motive to make a profit and it’s considered a trade. An individual would need to pay income tax whereas a business would have to pay corporation tax.
The benefit of this is that revenue can be offset and deductions can be a made or applied. You can even gain capital allowance for the computer you have purchased to complete the mining activity.
If the mining can be classed as a hobby, then it’s tax-free. However, this will only be the case is that profit is due to the asset’s price rise. Miners need to be aware that case law does suggest a hobby can become a trade operating under the ‘trade or not’ position of the HMRC. This will usually once again be related to an individual taxpayer attempting to claim on a trading loss.
It seems that there are various issues the HMRC still need to address when it comes to tax and cryptocurrency. You do need to make sure that you are keeping records of all your transactions that involve crypto as ultimately they could all be taxable, depending on how they are classified. The main point is that you need to provide full disclosure to the HMRC of your position and your level of activity involving cryptocurrency like Bitcoin.