Crypto-assets have become widespread in recent years. Crypto-assets are digital version of value or rights (acquired through some agreement) that are secured through cryptography. These digital assets can be transferred, stored or traded electronically. Crypto-assets have been created in a vast range of different types for varied uses. There has been a need to outline clear guidelines on how investors holding crypto-assets should be taxed on their income from these assets. HMRC published a set of guidelines in this regard during the year 2018.
- Utility tokens: These can be used to access specific goods or services on a digital platform generally using DLT. Businesses that issue these tokens also commit to accept them as payment for goods and services.
- Exchange tokens (bitcoins): These are used as a process of payment and cover cryptocurrencies like bitcoin. Exchange tokens use Distributed Ledger Technology (DLT). The underlying values of these assets exist based on their use as a medium of investment or exchange.
- Security tokens: Taxation on different types of tokens varies with the nature and use of the token. It is not dependent on the definition of the token.
HMRC’s initial guidelines primarily focus on taxation of exchange tokens.
Before proceeding further on applicability of taxes, it will be pertinent to explain disposal of crypto-assets. Disposal of crypto-assets constitute:
Also Rea: Bitcoins Tax Implications UK
Application of taxes
Mostly, individuals own crypto-assets in the form of investment. These are held by the investors for capital appreciation or for the purpose of purchases. When these crypto-assets are disposed of, investors owning them are liable to pay Capital Gains Tax.
- Employer as payment which is non-cash
- Mining awards or fees and airdrops
Income Tax on Crypto-assets
As per HMRC guidelines, taxation is to be done based on what an individual having crypto-assets does with it. If the owner conducts trade, Income Tax will be applicable to the gains achieved through trade.
In the instance of financial trading, Income Tax will supersede Capital Gains Tax. Same will be applicable to gains or losses made in the aforesaid activity.
Trading in crypto-assets will be parallel in nature to trading in securities, stocks and any other financial products. Whether a transaction in crypto-assets can be considered a trade will also be decided by taking guidance from existing cases or laws on trading in conventional financial products.
Individuals who verify changes to the block chain digital ledger are called ‘miners’. Miners are generally offered crypto-assets for checking addendums in block chain digital ledger. Mining includes use of computers for finding solution to difficult mathematics problems.
Taxation on this kind of activity will be decided after considering following aspects: Extent of activity, Association or Entity involved, Underlying risk and Commercial aspect.
In case mining activity is not considered to be trading, the value of crypto-assets offered for mining that are successful will be taxed as income (that is any miscellaneous income). Any income that is related will be deducted from the amount taxable.
If offered crypto-assets are retained by the miner, Capital Gains Tax will be applicable at the time of disposal.
Charges from mining activity
Charges accepted for mining activities need to be chargeable as per Income Tax laws. If the miner accepts crypto-assets in lieu of charges and there is an appreciation in value of these assets from the time of acquiring, there will be chargeable gain during the time of disposal of these assets or in case of trading, gains garnered will be taxable.
There can be instances when an individual is offered crypto-assets as a part of some promotional activity or individual holding crypto-assets are provided with bonus crypto-assets. These are called airdrops.
Tax may not be applicable for airdrops in certain circumstances for example:
On the other hand, crypto-assets offered in lieu of some service or other conditions are subject to income tax.
However, disposal of crypto-assets accepted as airdrops may lead to taxation if there is appreciation in the value of these assets from the time of acquisition.
Losses: Applicability of Income Tax
Income Tax payables can be decreased by adjusting losses from profits expected in future or any other income. Besides, losses can be taken forward to future years.
Taxes on Capital Gains
Investment in crypto-assets or in other words buying and selling of crypto-assets will amount to investment and as such will attract Capital Gains Tax on profits earned.
Costs allowed for deduction
Specific costs are allowed for deduction while estimating gain or loss on crypto-asset related dealings. These are:
- Cost of the asset originally paid
- Transaction charges paid
- Costs incurred for promotion on behalf of a purchaser
- Any professional fees incurred to sign up a contract for acquiring or disposing of crypto-assets
- Valuation costs in relation to estimation of profits or losses
On the contrary below mentioned costs are not be considered for Capital Gains Tax purposes:
During self assessment of tax return, crypto-assets traded in foreign currency need to be valued in terms of pound sterling for estimating profits or losses.
In the absence of any pound sterling value, proper exchange rate should be set to reach a fair value of gain or loss on crypto-assets.
The guidelines outlined by HMRC offer to provide clarity on treatment of crypto-assets by the British Government in future. Drawing similarity between conventional assets and crypto-assets for taxation purposes will facilitate in greater acceptability of these assets. This will also make dealing in this novel form of asset much easier as most tax payers will already be familiar with existing taxation procedures.