On 19 December 2018, HMRC gave everyone an early Christmas gift: a policy paper on cryptocurrencies. It clarifies the government’s view on the tax treatment of such assets, but only for individuals. However, this is only their view, no cases have hit the tax tribunals regarding cryptocurrencies and their treatment; what they make of it for businesses is still out to be determined.
HMRC’s last policy paper on cryptocurrencies was 3 March 2014. A lot can change in almost five years. Back then one Bitcoin was worth £487.34 and today it’s worth £2,895.21, and so too has their view of the tax treatment changed. Back then they intimated that Bitcoin was so widely speculative purchasing them could be a form of gambling, something which is not taxable. They have gone back on this and in their latest paper there is no mention of such a view. They are firmly in the camp that cryptocurrencies are assets and they are taxable.
Many would disagree, stating that cryptocurrencies are exactly that: currencies and that the government need to catch up and regard them as such. As of writing nowhere across the world recognises cryptocurrencies as a form of legal tender and in many countries, they are completely illegal.
So, what exactly are cryptocurrencies? The fundamental principle of a cryptocurrency is its blockchain. This is an immutable ledger to which all transactions are recorded. This gives a public record of who owns what coins and in what wallets. The blockchain comes into existence by miners solving complex mathematical equations, verifying the blockchain and the transactions it records. As a reward for completing these equations the miners receive coins and so the cryptocurrency comes into existence.
People have created real physical bitcoins and paper wallets, but fundamentally bitcoin is completely intangible. It exists only in the blockchain, but it has value as it cannot be changed and there is a limit to the number of bitcoins which can exist. Over the past five years the hype has grown for bitcoins and consequently so has its value, albeit in peaks and troughs. This has resulted in huge gains for some and losses for others.
Where there are huge gains there is the taxman seeking to get his cut of the action. No longer are bitcoins wild speculation which could only be gambling; for individuals they are typically held out as investments and be subject to capital gains tax. HMRC contend it would be exceptional for an individual to trade in bitcoins and be subject to income tax. A trade in cryptocurrencies would be similar to a trade in shares or securities and so case law would need to be applied to determine whether it amounts to a trade. Case law has developed the badges of trade which include ‘profit seeking motive’ and ‘frequency of transactions’, which are likely to be indicators of trading for those taking advantage of the peaks and troughs regularly.
For the purposes of capital gains tax all forms of property whether situated in the UK or not including generally incorporeal property are taxable assets for UK tax residents. Bitcoins are what’s known as fungible, in that they don’t have their own distinct character and so there exists rules which help to simplify (with a few caveats) the taxation of such assets. Even if one day the government recognise cryptocurrencies as real currencies, foreign currencies are still taxable in certain circumstances.
Income tax may be chargeable on ‘mining activities’ (an activity solving mathematical equations resulting in the production of bitcoins) and what subsequently happens to the coins (sell them or purchase items). The nature of the activities will need to be considered in context of case law to determine the correct treatment.
There may be more difficulty for tax authorities looking at private transactions. The darker side of the currency has allegedly been used in dealing in illegal activities – the sale of arms, drugs, human trafficking and many shocking offences. Illegal activities also extend to money laundering and tax evasion. Although HMRC are likely to be interested in those who trade goods in return for cryptocurrencies and then exchange the currency for cash without declaring the trading activities.
The policy paper makes no mention of location either. For example, would a non-resident who travels to the UK and disposes of bitcoins in the UK be taxable here? There are a lot of interesting questions thrown up by the briefing which will require careful consideration of your circumstances to determine the correct treatment.
And then the policy paper still leaves a lot still to be considered for those who are running a business and accepting payment in bitcoins. There exist rules for taxation for business on foreign currencies and special regimes for intangible assets. The correct treatment will depend on the nature of the bitcoins in the business.
In summary there’s no clear cut answer on how to tax any cryptocurrency profit, however, the good news is that HMRC don’t have a clear answer either. In the absence of legislation or guidance, it will be up to the tribunals to confirm the correct treatment, but until then a sensible approach is required with careful consideration of the relevant facts.