Will Sweeney – Tax Technical Specialist
Cryptocurrency is a digital ‘token’, recorded using a ‘blockchain’ or distributed ledger infrastructure. These tokens can encode a whole range of user rights but one of the simplest and best known is cryptocurrency – which are intended to operate as a medium of exchange.
Cryptocurrencies – where to start
First things first, HMRC guidance is available however it is only recently released after a long delay. This has meant that a number of articles have been published speculating on the availability of various treatments to minimise your liability.
“Whether any profit or gain is chargeable or any loss is allowable will be looked at on a case-by-case basis taking into account the specific facts.”
To a certain extent this is true, but we can’t just pick the most favourable treatment available and apply this to all situations. As the quote above states, a case by case approach needs to be followed and this needs to be backed up by the tax treatment that follows the facts of your particular case.
Currency vs Asset
I want to start by considering what we are talking about here as the moniker of crypto-currency is not an accurate one.
Definition of money
- A store of value with which to transfer purchasing power from today to some future time;
- A medium of exchange with which to make payments for goods and services; and
- A unit of account with which to measure the value of a particular good, service, saving or loan.
As crypto-currencies can’t effectively be used as a medium of exchange or a reliable unit to measure value, it is hard to believe that it can be considered a currency – see Mark Carney’s assessment of this. In time I believe we will come to see the term crypto-currency disappear, welcome to the world of crypto-assets.
How should I tax my cryptocurrency UK assets
So, if not a currency, what is a crypto-asset?
Where crypto-assets are held for sale in the ordinary course of business, they should be treated as inventories in much the same way as other assets when it comes to calculating the profit on a sale.
Otherwise, for accounts purposes, crypto-assets are intangible assets: “an identifiable non-monetary asset without physical substance”, held on the balance sheet and (typically) amortised over the life of the asset.
However, tax has its own specific rules, and so while the accounts are an important guide to the tax treatment of crypto-assets, they should not be taken as the final word…
Pay income tax: investment vs trade
We must first consider the Badges of Trade to assess whether an individual’s exposure to crypto-assets is a ‘trade’ and therefore pay income tax. E.g. is there:
Intention to make profit?
Repeated crypto transactions?
Another way to look at this is considering whether you are an ACTIVE or PASSIVE investor. This is important as the potential tax liability is significantly different.
So as a rough guide, a one-off purchase of a few coins that are retained in the hope of the value appreciating, consider yourself a passive investor. Where multiple crypto transactions take place, buying and selling coins to maximise trading profits, consider yourself an active trader.
There is an underlying assumption that most activity will be investment, unless carried out with such a frequency, degree organisation and sophistication that the case for trading is unarguable.
Activities such as financial trading or mining new crypto-assets may be treated as trading. Profit or losses are taxable to income tax at rates of up to 45% plus NICs (from 2% – 9% depending on other income). Trading losses can be offset against other income and gains if the business has other activities or carried forward against future trading profits.
Certain activities that fail to meet the standard for trading (see mining section, below) may be taxed as miscellaneous income instead. Profit or losses are still taxable to income tax at rates of up to 45% but NICs are not due. Note that miscellaneous losses can only be carried forward against future miscellaneous profits.
Passive: pay capital gains tax
Gains will be subject to your Capital Gains Tax bill at up to 20%. One particularly important point is to maintain a detailed record of your crypto transactions as this will impact on the profit you are taxed upon when they are sold. If your net capital gain exceeds your Capital Gains Tax allowance, you’ll need to report this to HMRC.
If activities amount to a trade, the company must account for the resulting income and expenses within their taxable trading profits or loss.
May be treated as an intangible fixed asset (IFA) provided it is acquired or created for use on a ‘continuing basis in the course of a companies’ activities”. IFAs may be valued at amortised cost, or revalued at the year end, and are taxable on the gain or losses.
By default, crypto-assets are treated as Chargeable Assets, meaning they are only taxed on disposal, with costs not relievable until they can be offset against proceeds (if any).
When revalued at the year-end rate, any gains or losses made after 1/4/17 can be offset against any other gains or losses in the company in the year and in future years. If the company has earlier losses they may be able to utilise these against crypto profits, but only if they are of the same type (trade or IFA). Crypto trading losses may also be carried back against the company’s prior year profits.
19% corporation tax arises on all of the above types of profit or gain, but further tax may be payable to extract the funds from the company at rates of up to 45% (plus NI) depending on your income – although you can manage the extraction of profits to minimise this. If the cash is not required in the short term, it may be left in the company until it is wound up, at which time entrepreneurs’ or crypto investors’ relief can be utilised to reduce the tax rate to 10%.
I have read many arguments that an individual or company involved in mining should only see their mining income gains become taxable when they convert back to fiat. However, my opinion is that when a crypto-asset is sold any gain or loss made on this crystallises. Whether it is sold for another crypto-asset, gold or fiat is not relevant in this case. For example, if you sold Apple shares in exchange for Microsoft shares, you would still be taxed on your gain at the point of sale.
The main thing to consider as a crypto-asset miner is that when you dispose of an asset, any costs to obtain this asset may be deductible in calculating the profits or capital gain. Exchanging one type of crypto asset for another is a disposal for UK capital gains tax purposes. So the hire of equipment or rent of data centre space could be deducted from the sale proceeds to reach the ‘profit on disposal’.
In addition, as with all cases, we need to consider Active vs Passive. If you have purchased the components, built a GPU rig and are actively managing the coins you are mining then, fine, this is a trade. It is most easily likened to receiving commission for work carried out, which is also classified as a trade. However, if you have a home computer running some of its spare CPU power doing some mining, let’s be honest, this is not likely to meet the standard for trading, and so the income will fall to be taxed as miscellaneous income.
As a final quirk, however, if you were to keep the awarded assets, then the activity would be viewed as investment and you may have to pay Capital Gains Tax (or Corporation Tax in the case of a company) on any gains.
HMRC’s guidance in 2014 noted that crypto investment could be considered gambling, this persists among investors hoping to limit their tax liability. However, it is my opinion that this will not hold up.
“A bet is merely an irrational agreement that one person should pay another person on the happening of an event.”Source: HMRC Definition & Guidance
This however does not hold true for most crypto-investments and HMRC’s updated guidance confirms that they do not regard buying and selling crypto-assets as gambling.
The exception to consider is Initial Coin Offerings (ICOs). A much touted statistic in early 2018 showed that 59% of ICOs from 2017 had failed or were likely failures that had just to be confirmed. If you can demonstrate that a number of your investments in the crypto space had not been successful, then maybe, just maybe, there is a gambling angle to be found.
However, typical articles of association will prohibit companies from gambling so this is not an option for an incorporated business.
And what can we do about it?
HMRC have said they will consider each situation on a case by case basis, and that is what we (as responsible advisors) must also do. We have the knowledge and the understanding of the crypto space and the various issues it presents, as well as a number of clients across a variety of the examples included above.
This enables us to consider the facts and base our recommendations on the latest guidance and information available. Our financial services can help you pay tax and ensure you are paying the correct tax on your crypto gains. The aim of Menzies is to ensure you don’t get it wrong and won’t need to pay a hefty tax bill you aren’t expecting a couple of years down the line as a result of unpaid crypto tax.