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Cryptocurrency investors may be under HMRC scrutiny
HMRC has obtained information about those who have bought or sold cryptocurrencies and says it will be writing to them in November. How should you respond if you receive a letter?
HMRC has said it will send so‐called “nudge letters” to anyone for whom it’s been sent information from cryptocurrency brokers. It says the purpose of the letters is to remind taxpayers “to review their transactions to ensure that they are declared correctly”.
- The first HMRC guidance was issued in 2014
- In 2019 HMRC issued their more detailed guidance to their Inspectors – the Cryptoassets Manual
Any difference in the buying and selling price of cryptocurrencies is generally subject to the capital gains tax rules, either as a taxable gain or loss. Tax will only be payable where all capital gains less capital losses for the year exceed the annual exemption. However, transactions should be reported on self‐assessment tax returns if their value exceeds certain limits or losses were made.
In some circumstances buying and selling cryptocurrencies counts as trading income in which case any amount of profit (or loss) is subject to income or corporation tax rules and must be reported to HMRC.
- In 2008 a Bitcoin cost….. nothing!
- By 2010 its value had climbed B1 = $1
- Then it took off!
- Now B1 = $30k, down from over $60k!
- If you had invested $20,000 in Bitcoin in 2010 you would now be a $billionaire, several times over!
- By way of contrast $20,000 invested in Tesla shares would only be worth $10,000,000
Introduction to Crypto assets
The History of Crypto
- It all began with Bitcoin
- Invented by Satoshi Nakamoto… if he exists!
- In October 2008 he posted a link to a paper on the internet
‘Bitcoin: A Peer to Peer Electronic Cash System’
- The background was the GFC of 2007 and 2008
- In 2009 he released the Bitcoin code as “Open Source”
A digital currency on a Distributed Ledger Tech (DLT) / blockchain
Crypto assets (also referred to as ‘tokens’ or ‘cryptocurrency’) are cryptographically secured digital representations of value or contractual rights that can be:
- transferred
- stored
- traded electronically
Exchange Tokens
Exchange tokens are intended to be used as a means of payment, he most well‐known being Bitcoin.
Utility Tokens
Utility tokens provide the holder with access to goods or services on a platform, usually using DLT (Distributed Ledger Technology). A business or group of businesses will normally issue the tokens and commit to accepting the tokens as payment for the goods or services in question. In addition, utility tokens may be traded on exchanges or in peer‐to‐peer transactions in same way as exchange tokens.
Security Tokens
Security tokens provide the holder of a security token particular rights or interests in a business, such as ownership, repayment of a specific sum of money, or entitlement to a share in future profits.
Stablecoins
Stablecoins are another prominent type of crypto asset. The premise is that these tokens minimize volatility as they may be pegged to something that is considered to have a stable value such as a fiat currency (government‐backed, for example, US dollars) or precious metals such as gold.
- There are now over 8,000 crypto-currencies
- Some, like Bitcoin, are simple Exchange Tokens – they can only be swapped for other digital currencies or for ‘fiat’ currencies
- Others, like Hadera, HBAR, are Utility Tokens, which are capable of functions that go beyond mere exchange
- Others are Security Tokens, connected with the ownership of shares
- Stablecoins are linked to assets
- In 2021, the volume of crypto tripled from $800 billion to $2.3 trillion [Bank of England’s figures]
DLT
Distributed Ledger Technology (DLT) is a digital system that records details of transactions in multiple places at the same time. The ledger acts as an immutable record of all the transactions that have happened within the network previously. A well‐known application of DLT is the Bitcoin blockchain, which acts as a public record of all the transactions that have ever taken place.
Blockchain
- Maybe the objective was to ensure that there could be no control by 3rd parties such as governments, banks or tax authorities
- Maybe that was coincidental
- It relied on ‘Proof of Work’ of transactions by peers in the network known as ‘nodes’
- The ‘transactions’ formed a ‘record’
- The records were bundled into ‘blocks’
- The ‘blocks’ were added to a chain
- All other ‘blocks’ were ‘cancelled
This is the Blockchain
Exchanges
An exchange is an online platform where people who wish to own crypto assets can:
- exchange their fiat (government-backed) currency for a particular token; ∙ exchange tokens for other tokens; and/or
- convert tokens into fiat currency.
There are many exchanges offering a range of services. They can be:
- custodial (offering a wallet as part of their service), or
- non‐custodial (not offering a wallet).
There are different types of exchange fees:
- Deposit fees are charged when fiat currency is deposited with the exchange. There may also be conversion fees if the fiat currency isn’t supported by the exchange.
- Trading fees are the predominant income source for exchanges. These will normally form a percentage of the trade being requested and will be payable regardless of whether the trade is to acquire or dispose of tokens.
Withdrawal fees may be applied for withdrawing fiat currency but may also apply to the withdrawal of tokens.
Consensus ‐ proof of work and proof of stake
Many crypto asset networks are not controlled by a single body or person. Typically, the network of users of a specific token play a role in verifying transactions or making technological changes.
This mechanism is often referred to as a ‘consensus’ because a sufficient proportion of the network must agree to a transaction or technological change before it can go ahead.
For example, if A wishes to send 500 tokens to B, it must first be verified that A does indeed hold that many tokens. If the network agrees that this is the case, the transaction is added to the distributed ledger.
Proof of Work
The most well‐known consensus system is Proof of Work, which is used by Bitcoin (amongst others). Here, the right to add a new entry to the distributed ledger is only available to the first person to solve a randomly generated complex cryptographic puzzle. That person then creates the new entry, and it is shared with all holders of the distributed ledger. The time and energy required to solve the puzzle is the proof of work, the right to add the entry is the primary reward. The person with that right will be entitled to any fees available for including transactions in that entry and they will be allocated with a quantity of new tokens that are released into circulation. This process is known as ‘mining’ and serves to maintain the network of a given crypto asset.
Proof of Stake
This has developed as an alternative to Proof of Work due to the significant amount of energy and computing power that system requires. Under Proof of Stake, the ability to create a new entry is determined by a user’s wealth in the crypto asset (or ‘stake’) rather than them having the computer power to solve a puzzle before anyone else does. Here, those verifying transactions are rewarded with fees for facilitating the transaction instead of any new tokens.
To Buy Crypto a Computer Must Add a Record To Add a Record a Computer Must Pass a test
- Known as reaching a consensus
- Tests are required to be passed to add a record to the block
Proof of Work Proof of Stake
- Solve puzzles The more you own the more
- If you pass you can buy crypto you can buy (mine) (mine)
- Originally ‘Proof of Work’ was used to reach a consensus
- Uses a lot of electricity
Now ‘Proof of Stake’ is increasingly used
Public and private keys
They make a message, transaction, or data value unreadable for an unauthorised reader or recipient, so it can only be read and processed by the intended recipient.
Exchange tokens rely on a public and private key system:
- The private key is a randomly generated string and is used to authorise a transaction involving tokens held at a public address.
- ∙A public key is mathematically generated from the private key, linking the two keys cryptographically.
For all practical purposes, a private key cannot be generated from a public key.
The public address is shared across the Distributed Ledger (DL). Anyone who knows that address can look at the DL and see all transactions to and from the public address. Any person who knows the public and private keys can authorise transactionsinvolving tokens held at the relevant public address.
If a private key is lost, the tokens will continue to exist at the public address. However, the ‘owner’ would be unable to undertake any transactions in respect of those tokens. If private key details were kept only on a computer which was subsequently destroyed, then the tokens would be unreachable, although they would continue to exist.
Wallets
A crypto asset wallet is a user interface where the private key is stored.
A cold wallet refers to a wallet that is not accessible via an internet connection. Examples of a cold wallet include:
- Hardware wallets ‐ store key details offline on a piece of hardware such as a simple USB drive. It is possible to purchase hardware devices with the wallet already installed on them. More advanced versions of hardware wallets have additional security functions.
- Paper wallets ‐ where the information of the private and public keys is simply printed or written on paper. This means it is always offline and its location known only by the holder.
A software wallet is one that is accessible via the internet. It can be further divided into online wallet and client‐side wallets.
- Online wallets may be offered by crypto asset exchanges as part of their services. They can be held on a server in a specific geographical location, on a cloud or the storage may be contracted out to a wallet provider. In this case the platform holds and controls the public key and private key.
- Client‐side wallets are also known as desktop wallets. They are managed locally on a user’s computer or mobile device.
Some people only store their private key as it is possible to reproduce the public key from that private key. Anything that can store data could become the wallet. The wallet/keys can be duplicated. The loss of a wallet does not affect the existence of the tokens themselves.
Record keeping
The onus is on the individual to keep their own records for each crypto asset transaction. Records of crypto assets can be:
- paper (cold) wallets containing the individual’s public and private keys
- electronic (hot) wallets on devices
- other records of their transactions and balances such as downloads of their wallet activity from a crypto assets exchange
- hardware (cold) wallets looking like a USB, containing the individual’s public and private keys.
Crypto assets are digital assets and as such all records in a wallet should show balances and transactions, either in full or via reference to a public blockchain. The individual’s access to fiat currency could come from:
- the point of deposits into a bank account; and
- use of a crypto asset Automated Teller Machine (ATM)
Crypto asset transactions usually occur on a public blockchain, so can be viewed digitally, and checked using records obtained from a wallet.
Crypto assets are obtained, administered, exchanged, used, and linked to fiat currency electronically or digitally. It istherefore reasonable to request electronic records with full details of transactions and any supporting valuation records for the acquisition and disposal tax points.
The onus is therefore on the individual to keep their own records for each crypto asset transaction, and these must include:
- the type of crypto asset
- date of the transaction
- if they were bought or sold
- number of units involved
- value of the transaction in pound sterling (as at the date of the transaction) ∙ cumulative total of the investment units held
- bank statements and wallet address in case these are needed for an enquiry or review
Why HMRC does not consider buying and selling crypto assets to be gambling
HMRC does not consider the buying and selling of crypto assets to be the same as gambling. The term ‘gambling’ is not defined in the Income Tax or Corporation Tax Acts, or in the Taxation of Chargeable Gains Act 1992. Whether a transaction can be characterised as betting or gambling is a question of fact. It will be down to the caseworker to consider the particular facts of any transaction involving crypto assets and conclude whether that transaction had the character of betting or gambling.
Crypto assets for individuals – Income Tax
Individuals will be liable to pay Income Tax and National Insurance contributions on crypto assets which they receive from:
- their employer as a form of non-cash payment
- mining, transaction confirmation or airdrops
There may be cases where the individual is running a business which is carrying on a financial trade in crypto assets and they will therefore have taxable trading profits. This is likely to be unusual, but in such cases Income Tax rules would take priority over other rules.
What is trading
Only in exceptional circumstances would HMRC expect individuals to buy and sell exchange tokens with such frequency, level of organisation and sophistication that the activity amounts to a financial trade. If the taxpayer’s activity is considered to be trading, then Income Tax will take priority over other tax and will apply to profits (or losses).
As with any activity, the question whether crypto asset activities amount to trading depends on several factors and the individual circumstances. Whether an individual is engaged in a financial trade through the activity of buying and selling tokens will ultimately be a question of fact. It’s often the case that individuals and companies entering into transactions consisting of buying and selling tokens will describe them as ‘trades’. However, the use of the term ‘trade’ in this context is not sufficient to be regarded as a financial trade for tax purposes.
A trade in exchange tokens would be similar in nature to a trade in shares, securities, and other financial products. The approach to be taken in determining whether a trade is being conducted or not would also be similar, and guidance can be drawn from the existing case law on trading in shares and securities.
Case Law on what is Trade
- Salt v Chamberlain
- Pickford v Quirke
- Cape Brandy Syndicate v CIR
- Martin v Lowry
- IRC v Fraser
- Rutledge v CIR
- Lynch v Edmondson
- Wisdom v Chamberlain
- Marson v Morton
Investment v Trade
- Why was the asset acquired
- for personal use? Rutledge
- to derive an income stream? Lynch
- if for neither, for resale, therefore trading Wisdom, Fraser
- Why do most holders of crypto buy crypto?
- for personal use?
- to derive an income stream?
if for neither, why are they not trading?
Other Possibilities
- Currency – the clue is in the name, and progressively in the function
- Gambling – the reality?
- Money – Moss v Hancock 1899
Investment
Earnings from employment – readily convertible assets
Crypto assets received as employment income count as ‘money’s worth’ and are subject to Income Tax and National Insurance contributions on the value of the asset.
Crypto assets are RCAs if trading arrangements exist, or are likely to come into existence, in accordance with section 702 of the Income Tax (Earnings and Pensions) Act 2003.
Exchange tokens like bitcoin can be exchanged on one or more token exchanges to obtain an amount of money. On that basis, it is HMRC’s view that ‘trading arrangements’ exist, or are likely to come into existence at the point crypto assets are received as employment income.
Where crypto assets are provided in the form of a readily convertible asset the employer is therefore required to account to HMRC for the tax and National Insurance contributions due on the best estimate of the value of that asset.
Any disposal of the token received through employment may result in a chargeable gain for Capital Gains Tax.
Mining transactions
Tokens can be awarded to ‘miners’ for verifying additions to the blockchain digital ledger. Mining will typically involve using computers to solve difficult mathematical problems to generate new tokens.
Whether such activity amounts to a taxable trade (with the tokens as trade receipts) depends on a range of factors such as:
- degree of activity
- organisation
- risk
- commerciality
If the mining activity does not amount to a trade, the pound sterling value (at the time of receipt) of any tokens awarded will be taxable as income (miscellaneous income) with any appropriate expenses reducing the amount chargeable.
If the individual keeps the awarded assets, they may have to pay Capital Gains Tax when they later dispose of them.
Staking
Some types of consensuses require the ‘staking’ of exchange tokens which weights the entitlement to newly forged tokens.
Whether such activity amounts to a taxable trade (with the tokens as trade receipts) depends on a range of factors such as:
- degree of activity
- organisation
- risk
- commerciality
If the activity does not amount to a trade, the pound sterling value (at the time of receipt) of any tokens awarded will be taxable as income (miscellaneous income) with any appropriate expenses reducing the amount chargeable.
If the individual keeps the awarded assets, they may have to pay Capital Gains Tax when they later dispose of them.
Airdrops
An airdrop is where someone receives an allocation of tokens, for example as part of a marketing or advertising campaign in which people are selected to receive them. Other examples of airdrops may involve tokens being provided automatically due to other tokens being held or where an individual has registered to become eligible to take part in the airdrop.
The airdropped tokens, typically, have their own infrastructure (which may include a smart contract, blockchain or other form of distributed ledger technology) that operates independently of the infrastructure for an existing crypto asset.
Income Tax will not always apply to airdropped tokens received in a personal capacity. Income Tax may not apply if they’re received:
- without doing anything in return (for example, not related to any service or other conditions) • not as part of a trade or business involving crypto asset exchange tokens or mining
Airdrops that are provided in return for, or in expectation of, a service are subject to Income Tax either as:
- miscellaneous income
- receipts of an existing trade
The disposal of a token received through an airdrop may result in a chargeable gain for Capital Gains Tax, even if it’s not chargeable to Income Tax when it’s received. Where changes in value get brought into account as part of a computation of trade profits Income Tax will take priority over Capital Gains Tax.
Income Tax losses
An individual who is trading may be able to reduce their Income Tax liability by offsetting any losses from their trade against future profits or other income.
If profits from activities are taxable as miscellaneous income, losses may be able to be carried forward to later years.
Crypto assets for individuals: Stamp Duty, Stamp Duty Reserve Tax and Stamp Duty Land Tax Stamp Duty and Stamp Duty Reserve Tax
Stamp Duty is charged on instruments that transfer stocks or marketable securities, and interests in partnerships if the partnership assets include stocks or marketable securities.
Stamp Duty Reserve Tax (SDRT) is a related tax and is charged on agreements to transfer chargeable securities.
Transfer of exchange tokens
For the transfers of exchange tokens to fall within the scope of Stamp Duty or SDRT, they would need to meet the definition of ‘stock or marketable securities’ or ‘chargeable securities’ respectively.
This will be considered on a case-by-case basis, dependent on the characteristics and nature of the crypto asset, rather than any labels attached to them.
However, as of the original date of publication of this paper, HMRC’s view is that existing exchange tokens would not be likely to meet the definition of ‘stock or marketable securities’ or ‘chargeable securities’.
Exchange tokens given as consideration
Exchange tokens could be given as consideration for purchases of ‘stock or marketable securities’ and/or ‘chargeable securities’.
For Stamp Duty, chargeable consideration is ‘money’, ‘stock or marketable securities’ or ‘debt’. For SDRT it is defined as ‘money or money’s worth’.
If exchange tokens are given as consideration, this would count as ‘money’s worth’ and so be chargeable for SDRT purposes. Tax will be due based on the pound sterling value of the exchange tokens at the relevant date.
Broadly, ‘debt’ counts as chargeable consideration for Stamp Duty in the following scenarios:
- release of a debt – The seller has an outstanding debt to the purchaser (which could be in the form of exchange tokens). The seller transfers shares to the purchaser, and in consideration the purchaser releases the seller from the debt.
- debt is assumed – A third party has an outstanding debt to the purchaser (which could be in the form of exchange tokens). The seller transfers shares to the purchaser, and in consideration the seller is assigned the right to the debt from the third party.
Stamp Duty Land Tax
Stamp Duty Land Tax (SDLT) is paid on the acquisition of land and buildings over a certain price in England and Northern Ireland.
- SDLT does not apply if the land or building(s) acquired is/are located in Scotland or Wales: You pay Land and Buildings Transaction Tax if you purchase land in Scotland on or after 1 April 2015
- You pay Land Transaction Tax if you purchase land in Wales on or after 1 April 201
Transfer of exchange tokens
HMRC does not consider transfers of exchange tokens to be land transactions. This means that SDLT will not be payable on such transfers.
Exchange tokens given as consideration
Chargeable consideration for the purposes of SDLT comprises anything given for the transaction that is ‘money or money’s worth’. As a rule, any non-monetary consideration should be valued at its market value on the effective date of the transaction.
Accordingly, if exchange tokens are given as consideration for a land transaction, these would fall within the definition of ‘money or money’s worth’ and so be chargeable to SDLT.
Crypto assets for individuals – Capital Gains Tax
In most cases, individuals hold crypto assets as a personal investment, usually for capital appreciation or to make purchases. They will be liable to pay Capital Gains Tax when they dispose of their crypto assets.
What is an asset
Tokens are digital and therefore intangible, but count as a ‘chargeable asset’ for Capital Gains Tax if they’re both:
- capable of being owned
- have a value that can be realised
HMRC expects that buying and selling of tokens by an individual will normally amount to investment activity (rather than a trade of dealing in tokens). In such cases, if an individual invests in tokens, they will typically have to pay Capital Gains Tax on any gains they realise.
What is a disposal
Individuals need to calculate their gain or loss when they dispose of their tokens to find out whether they need to pay Capital Gains Tax. A ‘disposal’ is a broad concept and includes:
- selling tokens for money
- exchanging tokens for a different type of token
- using tokens to pay for goods or services
- giving away tokens to another person (unless it’s a gift to their spouse or civil partner)
There is no disposal if the individual retains beneficial ownership of the tokens throughout the transaction.
Using a mixer, tumbler, or similar service so that the individual receives the same type of tokens that they put into the transaction also is not a disposal. However, it will constitute a disposal if the individual puts token A into the transaction and receives token B in return.
If tokens are given away to another person who is not a spouse or civil partner, the individual must work out the pound sterling value of what has been given away. For Capital Gains Tax purposes, the individual is treated as having received that amount of pound sterling.
If Income Tax has been charged on the value of the tokens received, section 37 TCGA 1992 will apply. Any consideration will be reduced by the amount already subject to Income Tax.
If an individual donates tokens to charity, they will not have to pay Capital Gains Tax on them. This does not apply:
- if they make a ‘tainted donation’
- where the individual disposes of the tokens to the charity for more than the acquisition cost so that they realise a gain.
Allowable expenses
When a person calculates their gains/losses from the disposal of tokens, not all costs are allowable as a deduction.
The types of cost which can be deducted include:
- the consideration (in pound sterling) originally paid for the asset
- transaction fees paid for having the transaction included on the distributed ledger • advertising for a purchaser or a vendor
- professional costs to draw up a contract for the acquisition or disposal of the tokens • costs of making a valuation or apportionment to be able to calculate gains or losses
Any costs deducted against profits for Income Tax are not allowable as a deduction for Capital Gains Tax.
Exchange Fees
Some fees charged by exchanges are allowable, but not all of them. Below is a list of common fees charged by exchanges and whether they satisfy section 38 TCGA 1992:
Situation in which an exchange fee may be incurred Treatment of fee for section 38 TCGA 1992
Exchange sterling for a fiat currency other than sterling
- allowable as a cost of acquiring the fiat currency other than sterling
Exchange fiat currency other than sterling for sterling
- allowable as an incidental cost of disposing of the fiat currency other than sterling
Deposit sterling with an exchange
- Sterling isn’t an asset for CGT purposes so not an allowable cost
Deposit fiat currency other than sterling with an exchange
- The depositor retains beneficial ownership of the fiat currency other than sterling so there’s no acquisition or disposal that the costs can be attributed to
Use sterling to purchase tokens
- allowable as a cost of acquiring the tokens
Use fiat currency other than sterling to purchase tokens
- allowable as a cost of acquiring the tokens
Dispose of tokens for sterling
- allowable as an incidental cost of disposing of the tokens
Dispose of tokens for fiat currency other than sterling
- allowable as an incidental cost of disposing of the tokens
Withdraw sterling from the exchange
- Sterling isn’t an asset for CGT purposes so not an allowable cost
Withdraw fiat currency other than sterling from the exchange
- The withdrawer retains beneficial ownership of the fiat currency other than sterling so there’s no acquisition or disposal that the costs can be attributed to
Exchange token A for token B: the fee paid is in relation to the whole of the transaction, that is for a disposal of one asset and the acquisition of another asset. This means that the fee is attributable to both assets. HMRC’s view is that this fee would be allowable as a deduction in computing the disposal in respect of token A under section 38(1)(c), and that it would be allowable as a deduction in computing the eventual disposal of token B under section 38(1)(a). TCGA92/S52(1) makes it clear that a sum may be allowed as a deduction only once in computing a disposal.
Where an allowable cost relates to more than one asset, the cost should be apportioned between those assets on a just and reasonable basis (TCGA92/S52(4)). You can accept that apportioning this type of fee equally between the assets disposed of and the assets acquired (that is a 50/50 split) is just and reasonable in these circumstances. If the customer chooses to apply a different approach, then this can be considered on a case-by-case basis.
Mining
Costs for mining activities (for example equipment and electricity) do not count toward allowable costs in respect of tokens because they’re not wholly and exclusively to acquire the tokens.
Pooling
Pooling under TCGA92/S104 allows for simpler Capital Gains Tax calculations. Pooling applies to shares and securities of companies and ‘any other assets where they are of a nature to be dealt in without identifying the particular assets disposed of or acquired’.
Where the nature of the tokens means they are dealt in without identifying the particular tokens being disposed of or acquired then the tokens should be pooled as per TCGA92/S104(3)(ii). Then the beneficial owner of the tokens will have a single pooled asset for Capital Gains Tax purposes that will increase or decrease with each acquisition, part disposal or disposal.
Non-Fungible Tokens (NFTs) are separately identifiable and so are not pooled. Each type of token will need its own pool.
Individuals must still keep a record of the amount spent on each type of token, as well as the pooled allowable cost of each pool.
Fees satisfied in tokens
Most crypto asset transactions require the person disposing of the tokens to pay a fee. This fee will often be satisfied in tokens. If the transaction fee is satisfied in tokens, then you need to consider that fee as one of the costs for the disposal of the tokens, but you also need to consider the fee as a disposal.
The token(s) given as a fee is disposed of for its market value and the allowable cost is established in the normal way.
So, the strict position is that where a token is paid as a fee then the relevant CG computation will include the following:
- Consideration equal to the MV of the token given as a fee
- Allowable cost equal to the MV of the token given as a fee
Example
Jackie holds 10,000 tokens that she acquired for total cost of £20,000. Jackie decides to sell 1,000 of the tokens for £5,000. The transaction requires that she pays a fee of 0.1% of what she is selling, i.e., 1 token.
Jackie’s pool before the disposal is:
Date Tokens Pooled cost
B/f 10,000 £20,000
The CG computation of the two disposals would be as follows
1,000 tokens for £5,000
Consideration £5,000
Less Allowable costs S104 – 1,000 / 10,000 x £20,000 (£2,000)
Fee – 1 token with MV of £5 (£5)
Gain £2,995
1 token given as the fee
Consideration MV of service received £5
Less Allowable costs S104 – 1/10,000 x £20,000 (£2)
Gain £3
However, the disposal of the 1,000 tokens and the disposal of the 1 token fee take place on the same day and involve the same type of token. That means that the same day rule applies, and all the tokens disposed of shall be treated as disposed of in a single transaction. The CG computation should therefore look as follows:
Consideration £5,005
Less Allowable costs S104 – 1,001 / 10,000 x £20,000 (£2,002)
MV of fee (£5)
Gain £2,998
Practical considerations
It is necessary for the customer to use the approach of producing two CG computations where the token disposed of, and the token(s) given as the fee are different types of token. This may happen where the person has used an exchange which allows the use of its own token to satisfy transaction fees.
Blockchain forks
Some crypto assets are not controlled by a central body or person but operate by consensus amongst that crypto asset’s community. When a significant minority of the community want to do something different, they may create a ‘fork’ in the distributed ledger.
There are two types of forks, a soft fork, and a hard fork. A soft fork updates the protocol and is intended to be adopted by all. No new tokens, or distributed ledger, are expected to be created. A hard fork is different and can result in new tokens coming into existence. Before the fork occurs, there is a single distributed ledger. Usually, at the point of the hard fork a second branch (and therefore a new crypto asset) is created.
The distributed ledger for the original and the new crypto assets have a shared history up to the fork. If an individual held tokens of the crypto asset on the original distributed ledger they will, usually, hold an equal number of tokens on both distributed ledgers after the fork.
The value of the new tokens is derived from the original tokens already held by the individual. This means that section 43 Taxation of Capital Gains Act (TCGA) 1992 will apply.
After the fork the new tokens need to go into their own pool. Any allowable costs in the pool of the original crypto assets are split between the two pools for the original tokens and the new tokens.
Airdrops
An airdrop is when an individual receives an allocation of tokens. For example, tokens that are given as part of a marketing or advertising campaign.
The crypto asset using the airdrop typically has its own infrastructure (which may include a smart contract, blockchain or other form of distributed ledger technology) that operates independently of the infrastructure for an existing crypto asset.
The airdropped tokens will need to go into their own pool unless the recipient already holds tokens of that crypto asset, in which case the airdropped tokens will go into the existing pool. The value of the airdropped crypto asset does not derive from existing tokens held by the individual, so section 43 TCGA 1992 does not apply.
Losing private keys
If an individual misplaces their private key (for example throwing away the piece of paper it is printed on), they will not be able to access their tokens. The private key still exists as part of the cryptography, albeit it is not known to the owner anymore. Similarly, the tokens will still exist in the distributed ledger. This means that misplacing the key does not count as a disposal for Capital Gains Tax purposes.
If it can be shown there is no prospect of recovering the private key or accessing the tokens, a negligible value claim could be made. If HMRC accepts the negligible value claim, the individual will be treated as having disposed of and re-acquiring the tokens they cannot access so that they can crystallise a loss.
Being defrauded
HMRC does not consider theft to be a disposal, as the individual still owns the stolen asset and has a right to recover it. This means victims of theft cannot claim a loss for Capital Gains Tax.
Individuals who contract to acquire tokens but then do not receive the tokens they have paid for may not be able to claim a capital loss.
Individuals who contract to acquire tokens and do actually receive tokens, may be able to make a negligible value claim to HMRC if those tokens become worthless. If the tokens are worthless when acquired, then a negligible value claim won’t be allowed. This won’t affect the ability of the individual to dispose of the tokens by other means to crystallise the capital loss.
S24 and negligible value
As with other types of assets, individuals can crystallise losses for tokens that they still own if they become worthless or of ‘negligible value’ while owned.
A negligible value claim treats the tokens as being disposed of and immediately re-acquired at an amount stated in the claim. As tokens are pooled, the negligible value claim needs to be made in respect of the whole pool, not the individual tokens.
The negligible value claim will need to state the:
- asset which is the subject of the claim
- amount the asset should be treated as disposed of (which may be £nil)
- date that the asset should be treated as being disposed of and immediately reacquired
The disposal produces a loss that needs to be reported to HMRC. Negligible value claims can be made to HMRC at the same time as reporting the loss.
Currency
HMRC does not consider crypto assets to be currency or money.
This means that sections 252 and 269 Taxation of Chargeable Gains Act 1992 do not apply.
Determining the location of exchange tokens
Crypto assets are digital in nature, meaning that they do not have a physical location. It is still necessary to determine their location for tax purposes. This is particularly relevant for:
- UK resident and non-domiciled individuals when computing their Capital Gains Tax (CGT) and Inheritance Tax (IHT) liabilities
- those considering if the Requirement To Correct (RTC) and offshore penalty regime may apply
When considering the location of an asset, the first thing to consider is whether there is any statute (whether for tax purposes or general purposes) that specifies the location. For CGT purposes, the Taxation of Chargeable Gains Act (TCGA) 1992 provides severalstatutory location rules in sections 275 (location of assets) and 275A (location of certain intangible assets), supplemented by 275B. For IHT purposes there are no statutory rules, determining the location instead relies on general principles applicable to private property.
Underlying Asset
Section 275 TCGA 1992 provides an exhaustive list of the different types of assets for the purposes of CGT. Where the crypto asset is simply a digital representation of an underlying asset then the location of the underlying asset will determine the location of the crypto asset.
No Underlying Asset
Where the crypto asset is an asset distinct from any underlying asset then HMRC’s view is that none of the statutory rules in the TCGA 1992 apply. Instead, it is HMRC’s view that:
- exchange tokens have an economic value as they can be ‘turned to account’ – for example, exchanging them for goods, services, fiat currency or other tokens;
- exchange tokens are a new type of intangible asset (different to other types of intangible assets, such as shares or debentures); and
- the only identifiable party to consider is the beneficial owner of the exchange token, such that the location of the crypto asset will be determined by the residency of the beneficial owner
This means that a person who holds exchanges tokens is liable to pay UK tax if they are a UK resident and carry out a transaction with their tokens which is subject to UK tax.
If an exchange token is co-owned between two or more beneficial owners, then section 275C Taxation of Chargeable Gains Act 1992 applies (for Capital Gains Tax). Each beneficial owner’s interest in the asset will be where that beneficial owner is resident. If one or more of the co-owners are UK resident, this will not affect the location for those co-owners who are not UK residents.
Crypto assets for businesses
Trading in exchange tokens
As with the tax analysis of other types of business, the question of whether a trade is being carried on is a key factor in determining the correct tax treatment.
Whether the buying and selling of exchange tokens amounts to a trade depends on a range of factors including:
- frequency
- level of organisation
- intention
If a person’s activities do amount to a trade, the receipts and expenses will form part of the calculation of the individual or company’s trading profit.
Only in exceptional circumstances would HMRC expect businesses to buy and sell exchange tokens with such frequency, level of organisation and sophistication that the activity amounts to a financial trade. If activities are considered to be trading, then:
- For individuals, Income Tax will take priority over Capital Gains Tax and will apply to profits (or losses).
- For companies, profits (or losses) will form part of the trading profits instead of being a chargeable gain.
As with any activity, the question whether crypto asset activities amount to trading depends on a number of factors and the individual circumstances. Whether a business is engaged in a financial trade through the activity of buying and selling tokens will ultimately be a question of fact. It’s often the case that individuals and companies entering into transactions consisting of buying and selling tokens will describe them as ‘trades’. However, the use of the term ‘trade’ in this context is not sufficient to be regarded as a financial trade for tax purposes.
A trade in crypto asset exchange tokens would be similar in nature to a trade in shares, securities and other financial products. The approach to be taken in determining whether a trade is being conducted or not would also be similar, and guidance can be drawn from the existing case law on trading in shares and securities.
Mining transactions
Crypto assets can be awarded to ‘miners’ in return for verifying additions to the distributed ledger. Whether such activity amounts to a taxable trade (with the crypto assets as trade receipts) will depend on the particular facts, taking into account a range of factors such as:
- degree of activity
- organisation
- risk
- commerciality
For example, using a home computer while it has spare capacity to mine tokens would not normally amount to a trade. However, purchasing a bank of dedicated computers to mine tokens for an
expected net profit (taking into account the cost of equipment and electricity) would probably constitute trading activity.
If the mining activity does not amount to a trade, the pound sterling value (at the time of receipt) of any crypto assets awarded for successful mining will generally be taxable as income (miscellaneous income), with any appropriate expenses reducing the amount chargeable.
If the activity does amount to a trade, any profits must be calculated according to the relevant tax rules.
Staking
Some types of mining require ‘staking’ of exchange tokens which weights the entitlement to newly forged tokens.
Whether such activity amounts to a taxable trade (with the crypto assets as trade receipts) will depend on the particular facts – taking into account a range of factors such as:
- degree of activity
- organisation
- risk
- commerciality
If the mining activity does not amount to a trade, the pound sterling value (at the time of receipt) of any crypto assets awarded for successful mining will generally be taxable as income (miscellaneous income), with any appropriate expenses reducing the amount chargeable.
If the activity does amount to a trade, any profits must be calculated according to the relevant tax rules.
Business income paid in crypto assets
If a company or business is carrying out activities which involve exchange tokens, they are liable to pay tax on them.
If the exchange tokens are held as part of an existing trade, profits of a revenue nature will need to be included in the trading profits. For example, if a company carrying on a trade accepts exchange tokens as payment from customers, or uses them to make payments to suppliers, the tokens given or received will need to be accounted for within the taxable trading profits.
HMRC taxes crypto assets based on what the person holding it does. If the holder is conducting a trade then Income Tax/Corporation Tax will be applied to their trading profits.
Crypto assets for businesses: Corporation Tax
When calculating their Corporation Tax, companies must consider all of the exchange token transactions they have carried out (as they would with any other type of asset).
It is important to note that HMRC does not consider any of the current types of crypto assets to be money or currency.
This means that any Corporation Tax legislation which relates solely to money or currency does not apply to exchange tokens or other types of crypto asset.
If the activity concerning the exchange token is not a trading activity and is not charged to Corporation Tax in another way (such as the non-trading loan relationship or intangible fixed asset rules) then the activity will be the disposal of a capital asset and any gain that arises from the disposal would typically be charged to Corporation Tax as a chargeable gain.
Loan relationships
A company has a ‘loan relationship’ if it has a money debt that has arisen from a transaction for the lending of money. This will be the case where it has lent or borrowed money.
HMRC does not consider exchange tokens to be money. In addition, there is typically no counterparty standing behind the token and, as such, it does not seem that the token constitutes a debt. This means that exchange tokens do not create a loan relationship.
Acquiring exchange tokens
The acquisition of exchange tokens generally does not involve entering a loan relationship. This is because there is usually no one backing the exchange token and therefore there is no money debt.
As a result, there is no loan relationship in relation to the exchange token and so the loan relationship provisions do not apply.
Loans backed by exchange tokens as securities/collateral
If exchange tokens have been provided as collateral/ security for an ordinary loan (of money), a loan relationship exists, and the loan relationship rules will apply (whether the company is the debtor or creditor).
Loans of exchange tokens
If exchange tokens are loaned – as opposed to traditional currency – it is unlikely that this would constitute a loan relationship. Given that the tokens would not represent an amount of currency/money:
- there would not be a money debt
- there would not have been a transaction for the lending of money
Intangible fixed assets
Companies that account for exchange tokens as ‘intangible assets’ may be taxed under Corporation Tax rules for intangible fixed assets if the token is both:
- an ‘intangible asset’ for accounting purposes
- an ‘intangible fixed asset’ (this means it has been created or acquired by a company for use on a continuing basis. Exchange tokens which are simply held by the company, even when held during its activities, will not meet this definition)
In addition, there are further specific exclusions. The list below covers some of the common exclusions, but this is not an exhaustive list, these specific exclusions include:
- financial assets
- assets held for non-commercial purposes or for mutual trading
- rights over land or tangible moveable property
- other rights such as rights in companies, trusts, partnerships
- If the company does not prepare GAAP-compliant accounts, the rules apply as if GAAP compliant accounts had been prepared.
Exchange tokens that meet the conditions above are treated the same as other intangible assets.
Corporation Tax on chargeable gains – what constitutes a disposal
Companies need to calculate their gain or loss when they dispose of their tokens to find out whether they need to pay Corporation Tax. A ‘disposal’ is a broad concept and includes:
- selling tokens for money
- exchanging tokens for a different type of token
- using tokens to pay for goods or services
- giving away tokens to another person
The company making the disposal must work out the market value of what it gave away. It must then use this to calculate any chargeable gain. Similarly, the recipient is treated as having acquired the crypto assets at their market value at the time of the gift.
There is no disposal if the company retains beneficial ownership of the tokens throughout the transaction, for example moving tokens between public addresses that the company beneficially controls (commonly described as moving tokens between wallets).
Using a mixer, tumbler or similar service so that the company receives the same type of tokens that they put into the transaction also is not a disposal. However, it will constitute a disposal if the company puts token A into the transaction and receives token B in return.
If a chargeable person disposes of exchange tokens to charity, they will not have to pay Corporation Tax on any gain that has accrued. This does not apply if either:
- they make a ‘tainted donation’
- the company disposes of the tokens to the charity for more than the acquisition cost (so that they realise a gain).
Allowable costs
When a company calculates their gains/losses from the disposal of tokens, not all costs are allowable as a deduction.
The types of cost which can be deducted include:
- the consideration (in pound sterling) originally paid for the asset
- transaction fees paid for having the transaction included on the distributed ledger • advertising for a purchaser or a vendor
- professional costs to draw up a contract for the acquisition or disposal of the tokens • costs of making a valuation or apportionment to be able to calculate gains or losses
Any costs deducted against profits for Income Tax are not allowable as a deduction for Capital Gains Tax.
Exchange Fees
Some fees charged by exchanges are allowable, but not all of them. Below is a list of common fees charged by exchanges and whether they satisfy section 38 TCGA 1992:
Situation in which an exchange fee may be incurred Treatment of fee for section 38 TCGA 1992
- Exchange sterling for a fiat currency other than sterling
- Exchange fiat currency other than sterling for sterling
- allowable as a cost of acquiring the fiat currency other than sterling
– allowable as an incidental cost of disposing of the fiat currency other than sterling
- Deposit sterling with an exchange – Sterling isn’t an asset for CGT purposes so not an allowable cost
- Deposit fiat currency other than sterling with an exchange
– The depositor retains beneficial ownership of the fiat currency other than sterling so there’s no acquisition or disposal that the costs can be attributed to
- Use sterling to purchase tokens – allowable as a cost of acquiring the tokens
- Use fiat currency other than sterling to
- purchase tokens – allowable as a cost of acquiring the tokens
- Dispose of tokens for sterling – allowable as an incidental cost of disposing of the tokens
- Dispose of tokens for fiat currency other than sterling
– allowable as an incidental cost of disposing of the tokens
- Withdraw sterling from the exchange – Sterling isn’t an asset for CGT purposes so not an allowable cost
- Withdraw fiat currency other than sterling from the exchange
– The withdrawer retains beneficial ownership of the fiat currency other than sterling so there’s no acquisition or disposal that the costs can be attributed to
Exchange token A for token B: the fee paid is in relation to the whole of the transaction, that is for a disposal of one asset and the acquisition of another asset. This means that the fee is attributable to both assets. HMRC’s view is that this fee would be allowable as a deduction in computing the disposal in respect of token A under section 38(1)(c), and that it would be allowable as a deduction in computing the eventual disposal of token B under section 38(1)(a). TCGA92/S52(1) makes it clear that a sum may be allowed as a deduction only once in computing a disposal.
Where an allowable cost relates to more than one asset, the cost should be apportioned between those assets on a just and reasonable basis (TCGA92/S52(4)). You can accept that apportioning this type of fee equally between the assets disposed of and the assets acquired (that is a 50/50 split) is just and reasonable in these circumstances. If the customer chooses to apply a different approach, then this can be considered on a case-by-case basis.
Mining
Costs for mining activities (for example equipment and electricity) do not count toward allowable costs in respect of tokens because they’re not wholly and exclusively to acquire the tokens.
Corporation Tax on Chargeable Gains – pooling
Pooling under TCGA92/S104 allows for simpler Capital Gains Tax calculations. Pooling applies to shares and securities of companies and ‘any other assets where they are of a nature to be dealt in without identifying the particular assets disposed of or acquired’.
Where the nature of the tokens means they are dealt in without identifying the particular tokens being disposed of or acquired then the tokens should be pooled as per TCGA92/S104(3)(ii). This is commonly referred to as a ‘section 104 pool’. If TCGA92/S104(3)(ii) applies then the beneficial owner of the tokens will have a single pooled asset for Capital Gains Tax purposes that will increase or decrease with each acquisition, part disposal or disposal.
Each type of token will need its own pool.
Businesses must keep a record of the amount spent on each type of exchange token, as well as the pooled allowable cost of each pool.
Pooling rules: exceptions for companies
There are two exceptions to the pooling rules, which mean that the new exchange tokens and the costs of acquiring them stay separate from the main pool.
Firstly, if a company acquires tokens on the same day that they dispose of tokens of the same type (even if the disposal took place first), the disposal is matched with the same-day acquisition in priority to any tokens held in an existing pool.
Secondly, if a company acquires tokens that would otherwise create or be added to a pool but within ten days makes a disposal of tokens of the same type, then that disposal is matched with the
acquisition within the previous nine days in priority to any tokens held in an existing pool. If there has been more than one acquisition within that period, then this rule applies on a ‘first in, first out’ basis.
The gain or loss should be calculated using the costs of the new tokens of the crypto asset that are kept separate.
If the number of tokens disposed of exceeds the number of new tokens acquired, the calculation of any gain or loss may also include an appropriate proportion of the pooled allowable cost.
Example
M Ltd holds 14,000 token B in a pool. It spent a total of £200,000 acquiring them, which is the pooled allowable cost.
On 30 August 2018 M Ltd buys 500 token B for £17,500.
Then on 4 September 2018 M Ltd sells 4,000 tokens B for £160,000.
As a disposal took place within the next 10 days, the 500 new tokens bought on 30 August 2018 do not go into the pool. Instead, M Ltd is treated as having sold:
- the 500 tokens it recently bought
- 3,500 of the tokens already in the pool
M Ltd will need to work out its gain on the 500 token B as follows:
Amount
Consideration £160,000 x (500 / 4,000) £20,000
Less allowable costs £17,500
Gain £2,500
M Ltd will also need to work out its gain on the 3,500 token B sold from the pool as follows: Amount
Consideration £160,000 x (3,500 / 4,000) £140,000
Less allowable costs £200,000 x (3,500 / 14,000) £50,000
Gain £90,000
M Ltd still holds a pool of 10,500 token B. The pool has allowable costs of £150,000 remaining. Corporation Tax on chargeable gains – capital losses
If a company disposes of exchange tokens for less than their allowable costs, they will have a loss. Certain ‘allowable losses’ can be used to reduce the overall gain, but the losses must be reported to HMRC first.
There are special rules for losses when disposing of exchange tokens to a ‘connected person’. Corporation Tax on chargeable gains – S24 and negligible value
As with other types of assets, businesses and companies can crystallise losses for exchange tokens that they still own if they become worthless or of ‘negligible value’.
A negligible value claim treats the exchange tokens as being disposed of and re-acquired at an amount stated in the claim. As exchange tokens are pooled, the negligible value claim needs to be made in respect of the whole pool, not the individual tokens.
The claim will need to state the:
- asset which is the subject of the claim
- amount the asset should be treated as disposed of (which may be £nil)
- date that the asset should be treated as disposed of
The disposal produces a loss that needs to be reported to HMRC. Negligible value claims can be made to HMRC at the same time as reporting the loss.
Corporation Tax on chargeable gains – losing private keys
If a company misplaces their private key (for example throwing away the piece of paper it is printed on), they will not be able to access their tokens. The private key still exists as part of the cryptography, albeit it is not known to the owner anymore. Similarly, the tokens will still exist in the distributed ledger. This means that misplacing the key does not count as a disposal for Capital Gains Tax purposes.
If it can be shown there is no prospect of recovering the private key or accessing the tokens, a negligible value claim could be made. If HMRC accepts the negligible value claim, the company will be treated as having disposed of and re-acquiring the tokens they cannot access so that they can crystallise a loss.
Corporation Tax: Corporation Tax on chargeable gains – being defrauded
HMRC does not consider theft to be a disposal, as the company still owns the stolen asset and has a right to recover it. This means victims of theft cannot claim a loss for Capital Gains Tax or Corporation Tax.
Companies who contract to acquire tokens but then do not receive the tokens they have paid for may not be able to claim a capital loss.
Companies who contract to acquire tokens and do receive tokens, may be able to make a negligible value claim to HMRC if those tokens become worthless. If the tokens are worthless when acquired, then a negligible value claim won’t be allowed. This won’t affect the ability of the company to dispose of the tokens by other means to crystallise the capital loss.
Corporation Tax on chargeable gains – blockchain forks
Some crypto assets are not controlled by a central body or person but operate by consensus amongst that crypto asset’s community. When a significant minority of the community want to do something different, they may create a ‘fork’ in the distributed ledger.
There are two types of forks, a soft fork, and a hard fork. A soft fork updates the protocol and is intended to be adopted by all. No new tokens, or distributed ledger, are expected to be created. A hard fork is different and can result in new tokens coming into existence. Before the fork occurs, there is a single distributed ledger. Usually, at the point of the hard fork a second branch (and therefore a new crypto asset) is created.
The distributed ledger for the original and the new crypto assets have a shared history up to the fork. If an individual held tokens of the crypto asset on the original distributed ledger they will, usually, hold an equal number of tokens on both distributed ledgers after the fork.
The value of the new tokens is derived from the original tokens already held by the individual. This means that section 43 Taxation of Capital Gains Act (TCGA) 1992 will apply.
After the fork the new tokens need to go into their own pool. Any allowable costs in the pool of the original crypto assets are split between the two pools for the original tokens and the new tokens.
Corporation Tax on chargeable gains – airdrops
An airdrop is when a company receives an allocation of tokens. For example, tokens that are given as part of a marketing or advertising campaign.
The crypto asset using the airdrop typically has its own infrastructure (which may include a smart contract, blockchain or other form of distributed ledger technology) that operates independently of the infrastructure for an existing crypto asset.
The airdropped tokens will need to go into their own pool unless the recipient already holds tokens of that crypto asset, in which case the airdropped tokens will go into the existing pool. The value of the airdropped crypto asset does not derive from existing tokens held by the individual, so section 43 TCGA 1992 does not apply.
Crypto assets for businesses: Venture capital schemes and tax reliefs
Crypto assets and distributed ledger technology are increasingly being used by innovative early-stage businesses. HMRC has received applications from such companies seeking tax-advantaged investment status under venture capital schemes such as the Enterprise Investment Scheme (EIS) or the Seed Enterprise Investment Scheme (SEIS).
The company, investor and proposed investment must meet the conditions of the scheme opted for. The schemes do not include any crypto asset-specific conditions, and HMRC’s approach is to review crypto asset or distributed ledger technology cases in the same way as any other business.
Meeting the qualifying conditions of a venture capital scheme
Given the diversity of activities that companies undertake involving exchange tokens and distributed ledger technology, and the rapid pace at which the sector is evolving, HMRC cannot provide detailed guidance on every situation.
None of the following activities will in themselves stop a business from meeting the qualifying conditions:
- providing goods or services to customers that are operating in the exchange tokens sector (for example manufacturing and selling computer hardware that is optimised for exchange token mining)
- accepting exchange tokens as payment for goods or services
- using distributed ledger technology as a means of recording or publishing information
This is because these activities are related to a core business activity such as manufacturing or retailing. If that core activity is a qualifying trade, HMRC would not expect the exchange tokens or distributed ledger technology activity to change that.
On the other hand, the treatment of the following types of activity is less certain: • dealing in exchange tokens on one’s own account
- exchanging or broking exchange token transactions
- mining exchange tokens
These are genuinely novel activities and applicant should carefully consider the circumstances against the scheme conditions, in particular, the trading requirement and the excluded activities list.
‘Mixed’ activities should also be considered carefully. For example, a company making and selling furniture might accept bitcoin as payment. Although the core activity is the manufacturing and retail of furniture, if the company acquires a large holding of bitcoin that it does not spend, or convert to flat currency, then it may also be investing in crypto assets. That may mean it fails the trading requirement through having a substantial amount of non-trading activity.
Asking for assurance from HMRC in advance
HMRC operates a non-statutory advance assurance service for the venture capital schemes. This allows companies to request HMRC’s opinion on whether they qualify for the schemes in advance of an investment being received.
In some circumstances HMRC may decline to give an opinion in response to an advance assurance request because the factual uncertainty involved is too great. Such cases are rare. This is a general feature of the venture capital advance assurance service and is not specific to exchange tokens. However, given the rapid pace of development of the industry, HMRC expects that, early on, there will be a number of exchange tokens cases that fall into this category.
Tax reliefs
A range of tax reliefs are available if certain conditions are met regarding the activities of a particular individual or business. These include:
- enterprise investment scheme
- seed enterprise investment scheme
- venture capital trust scheme
- reliefs for gifts of business assets
- business property relief
As with the venture capital schemes discussed above, there are no provisions within the legislation for these reliefs that refer to crypto assets. HMRC’s approach is to review cases that involve crypto assets in the same way as any other cases. If, after consulting the relevant HMRC guidance, there remains genuine uncertainty as to the availability of a particular relief, clearance can be sought using the Non-Statutory Clearance Notice.
Crypto assets for businesses: Income Tax
Paying employees in crypto assets
When providing a notional payment in the form of a readily convertible asset to an employee, the employer will need to establish if that notional payment constitutes a payment of employment income to the employee for both:
- income tax purposes (under Section 62 of the Income Tax (Earnings and Pensions) Act 2003) • National Insurance contribution purposes (under Section 3 of the Social Security Contributions & Benefits Act 1992)
HMRC considers exchange tokens to count as ‘money’s worth’, and to therefore be employment income subject to Income Tax and National Insurance contributions on the value of the asset.
Exchange tokens provided in the form of Readily Convertible Assets (RCAs)
How to account for the income tax and National Insurance contributions depends on whether the exchange tokens are readily convertible assets. Exchange tokens are readily convertible assets if trading arrangements exist, or are likely to come into existence, the effect of which is to enable the tokens to be converted into their monetary value.
HMRC considers that exchange tokens generally will be readily convertible assets. Where an employee is provided with employment income in the form of a readily convertible asset, the employer will need to apply a valuation to that readily convertible asset using their best estimate and then subject it to the appropriate PAYE Income Tax and Class 1 National Insurance contribution deductions, which the employer should then report and pay over to HMRC in accordance with the real time reporting provisions.
National Insurance contributions
Where crypto assets are provided in the form of a readily convertible asset, HMRC also considers this to be earnings for National Insurance contribution purposes under Section 3 of the Social Security Contributions and Benefits Act 1992. The employer must therefore account to HMRC for the appropriate amount of Primary and Secondary Class 1 contributions via PAYE/Real Time Information for the relevant earnings period.
Exchange tokens which are not readily convertible assets
If the exchange token is not a readily convertible asset, the employer does not have to apply PAYE Income Tax and Class 1 National Insurance contribution deductions.
However, the employee must declare any amount received in the form of exchange tokens on the employment pages of their Self-Assessment tax return and then pay HMRC (via Self-Assessment) any Income Tax liability arising on that income.
For National Insurance contributions purposes, if the exchange token is not a readily convertible asset, the employer should treat the payment as being a benefit in kind and pay and report any Class 1A
Employment income provided through third parties
Under Part 7A of the Income Tax (Earnings and Pensions) Act 2003, if exchange tokens are provided to an employee by a third party, an Income Tax charge may arise.
The employer is required to account to HMRC for the Income Tax due through the operation of PAYE when exchange tokens are provided as employment income. The amount of PAYE income on which the employer must account for Income Tax is based on the best estimate that can reasonably be made.
For National Insurance contributions purposes, if exchange tokens are provided by a third party, the National Insurance contribution liability will continue to arise, however in certain circumstances the third party, rather than the employer, can be liable to pay Class 1A National Insurance contributions.
Crypto assets for businesses: Stamp Duty, Stamp Duty Reserve Tax and Stamp Duty Land Tax: Stamp Duty and Stamp Duty Reserve Tax
Stamp Duty is charged on instruments that transfer stocks or marketable securities, and interests in partnerships if the partnership assets include stocks or marketable securities. Stamp Duty Reserve Tax (SDRT) is a related tax and is charged on agreements to transfer chargeable securities.
Transfer of exchange tokens
For transfers of exchange tokens to fall within the scope of Stamp Duty or SDRT, they would need to meet the definition of ‘stock or marketable securities’ or ‘chargeable securities’ respectively.
This will be considered on a case-by-case basis, dependent on the characteristics and nature of the crypto assets, rather than any labels attached to them.
HMRC’s view is that existing exchange tokens would not be likely to meet the definition of ‘stock or marketable securities’ or ‘chargeable securities’.
Exchange tokens given as consideration
Exchange tokens could be given as consideration for purchases of ‘stock or marketable securities’ and/or ‘chargeable securities’.
For Stamp Duty, chargeable consideration is ‘money’, ‘stock or marketable securities’ or ‘debt’. For SDRT it is defined as ‘money or money’s worth’.
If exchange tokens are given as consideration, this would count as ‘money’s worth’ and so be chargeable for SDRT purposes. Tax will be due based on the pound sterling value of the exchange tokens at the relevant date.
Broadly, ‘debt’ counts as chargeable consideration for Stamp Duty in the following scenarios:
- release of a debt – The seller has an outstanding debt to the purchaser (which could be in the form of exchange tokens). The seller transfers shares to the purchaser, and in consideration the purchaser releases the seller from the debt.
- debt is assumed – A third party has an outstanding debt to the purchaser (which could be in the form of exchange tokens). The seller transfers shares to the purchaser, and in consideration the seller is assigned the right to the debt from the third party.
Stamp Duty Land Tax
Stamp Duty Land Tax (SDLT) is paid on the acquisition of land and buildings over a certain price in England and Northern Ireland.
SDLT does not apply if the land or buildings acquired is/are located in Scotland or Wales:
- You pay Land and Buildings Transaction Tax if you purchase land in Scotland on or after 1 April 2015.
- You pay Land Transaction Tax if you purchase land in Wales on or after 1 April 2018.
Transfer of exchange tokens
HMRC does not consider transfers of exchange tokens to be land transactions. This means that SDLT will not be payable on such transfers.
Exchange tokens given as consideration
Chargeable consideration for the purposes of SDLT comprises anything given for the transaction that is ‘money or money’s worth’. As a rule, any non-monetary consideration should be valued at its market value on the effective date of the transaction.
Accordingly, if exchange tokens are given as consideration for a land transaction, these would fall within the definition of ‘money or money’s worth’ and so be chargeable to SDLT.
Crypto assets for businesses: Value Added Tax (VAT)
VAT is due in the normal way on any goods or services sold in exchange for crypto asset exchange tokens.
The value of the supply of goods or services on which VAT is due will be the pound sterling value of the exchange tokens at the point the transaction takes place.
Check VAT rates on different goods and services
For VAT purposes, crypto assets are to be treated as follows.
Exchange tokens received by miners for their exchange token mining activities will generally be outside the scope of VAT on the basis that:
- the activity does not constitute an economic activity for VAT purposes because there is an insufficient link between any services provided and any consideration; and
- there is no customer for the mining service
When exchange tokens are exchanged for goods and services, no VAT will be due on the supply of the token itself
Charges (in whatever form) made over and above the value of the exchange tokens for arranging any transactions in exchange tokens will be exempt from VAT under Item 5, Schedule 9, Group 5 of the Value Added Tax Act 1994.
The VAT treatments outlined above are provisional pending further developments in respect of the regulatory and EU VAT positions.
Bitcoin exchanges
In 2014, HMRC decided that under Item 1, Group 5, Schedule 9 of the Value Added Tax Act 1994, the financial services supplied by bitcoin exchanges – exchanging bitcoin for legal tender and vice versa – are exempt from VAT.
This was confirmed in the Court of Justice of the EU (CJEU) in the Swedish case, David Hedqvist (C 264/14). Mr Hedqvist planned to set up a business which would exchange traditional currency for bitcoin and vice versa. Mr Hedqvist did not intend to charge a fee for this service but rather to derive a profit from the ‘spread’ (the difference between his purchase and sell price).
Questions were referred to the CJEU on whether such exchange transactions constitute a supply for VAT purposes and if so, would they be exempt.
The CJEU referred to the judgment in First National Bank of Chicago (C-172/96) and concluded that the exchange transactions would constitute a supply of services effected for consideration.
The Court also ruled that the exchange of traditional currencies for non-legal tender such as Bitcoin (and vice versa) are financial transactions and fall within the exemption under Article 135(1)(e) of the VAT Directive.
A supply of any services required to exchange the exchange tokens for legal tender (or other exchange tokens) and vice versa, will be exempt from VAT under Item 1, Group 5, Schedule. 9, of the Value Added Tax Act 1994.
HMRC’s cryptocurrency nudge letters
HMRC will soon send out thousands of “nudge letters” to cryptocurrency investors.
These are designed to remind taxpayers of their responsibilities to report income or gains through self‐assessment or to notify it that they have transactions to report. In the past nudge letters have been used for offshore bank account holders and owners of rental properties. HMRC will now use them for anyone who’s bought cryptocurrencies, which it refers to as crypto assets.
HMRC has used its powers to obtain information from UK exchanges and dealers in cryptocurrencies about people who have bought or sold through them. The information isn’t detailed and HMRC can’t determine from it the reason for the transaction or whether you made or lost money as a result. A nudge letter is therefore just a gentle reminder that you might need to make a declaration to HMRC and to put you on notice that it has its eye on you.
If you receive a nudge letter and bought cryptocurrencies in 2020/21 or earlier but haven’t sold any, there’s nothing for you to do. Conversely, if you sold cryptocurrencies in 2020/21 you should, if you haven’t done so already, check whether it resulted in a taxable gain or loss which ought to be reported on your self‐assessment return for that year. If you’ve already sent your tax return and not included a reportable cryptocurrency transaction, submit an amendment without delay. The same applies for 2019/20 transactions.
If you made a taxable gain or profit from selling cryptocurrencies for 2020/21, are not registered for self‐assessment and have not reported it to HMRC, you might be liable to a penalty. To minimise the chance of this contact HMRC as soon as possible, preferably before you receive a nudge letter. If you have an accountant, contact them first.
If you’ve sold cryptocurrencies and haven’t checked if you made a gain or loss, do it now and notify HMRC if you need to declare it. If the transaction was in 2020/21, do this on your self‐assessment return for that year.
