The Inland Revenue Authority of Singapore (IRAS) has released two electronic(e)-tax guides on the taxation of digital tokens, with one dealing with the income tax implications and the other the goods and services tax (GST) implications. Specific legislation has also been enacted to expressly exempt supplies of digital payment tokens from GST. Despite the guidance provided by the IRAS, determining the taxability of gains from the disposals of assets is a complex, fact specific inquiry that cannot easily be reduced to an e-tax guide.
The e-tax guide states that, where cryptocurrencies are exchanged for fiat currency or converted from one form of payment token to another, the resultant gains may be taxed if they are revenue and not capital in nature. Of course, the real difficulty lies in determining the nature of the gain. This position appears to be in line with the majority of other jurisdictions, which consider exchanges made between virtual currencies and fiat currencies to constitute a taxable event, with few exceptions.
The “Badges of Trade” are a set of indicia used as a guide in the determination of whether a taxpayer has engaged in a trade and therefore the gain is revenue in nature. This is important because in Singapore, capital gains would be tax free but trading income is taxable.
In 1955 a report by the Royal Commission on the Taxation of Profits and Income reviewed case law and identified six badges of trade. This was the starting point and as you can imagine there has been some development in the area supplemented by case law. HM Revenue & Customs (HMRC) now lists nine badges of trade:
- profit seeking motive
- the number of transactions
- the nature of the asset
- existence of similar trading transactions or interests
- changes to the asset
- the way the sale was carried out
- the source of finance
- interval of time between purchase and sale
- method of acquisition.
PROFIT SEEKING MOTIVE
It is clear that having an intention to make a profit can indicate a trading activity, however by itself it is not enough. In case Salt v Chamberlain – Ch D 1979, 53 TC 143;  STC 750, a research consultant made a loss on the Stock Exchange after trying to forecast the market. The loss was made after several years and over 200 transactions. This was not seen as trade and capital in nature. It was concluded that share trading by a private individual can never have the badges of trade pinned to them. These transactions are subject to capital gains tax.
In another case, Rutledge v CIR – CS 1929, 14 TC 490, the taxpayer was on a business trip to Germany a taxpayer purchased one million toilet rolls. On returning to the UK the sole consignment of toilet rolls were sold to one individual for a profit. The profit made on this large quantity single purchase and resale item was ‘an adventure in the nature of trade’. The case was decided on the fact that the purchase was not made for own use or investment purposes.
THE NUMBER OF TRANSACTIONS
A single transaction can amount to a trading activity, it is more indicative if there are repeated and systematic transactions. This was clearly displayed in the case Pickford v Quirke – CA 1927, 13 TC 251. A syndicate purchased a cotton-spinning mill with the intension of using it in a trade, however, on purchase of the mill it was in a worse state than first anticipated. The syndicate then decided to strip the mill of its assets and sell it piecemeal, making a profit. This was repeated a number of times with a number of mills. Due to the repeated nature of the transactions it was held that the profits were trading profits and taxable as such.
THE NATURE OF THE ASSET
This principle is more difficult to explain, it looks at the asset, problems arise when assets are bought either as:
- an investments that has the ability to generate income
- personal assets
- some assets used by a trade such as plant and machinery.
An important case in this area was Marson v Morton – Ch D 1986, 59 TC 381;  STC 463;  1 WLR 1343. This was where land was purchased with the intension to hold it as an investment. No income was generated by the land, however, it did have planning permission. The land was sold latter following an unsolicited offer. As the transaction was far removed from the taxpayer’s normal activity (potato merchant) and was similar to an investment, it was not a trading profit. The transaction was not an adventure in the nature of a trade.
Another case Wisdom v Chamberlain – CA 1968, 45 TC 92;  1 WLR 275;  1 All ER 332, looked at the principle ‘pride of possession’ assets that generate no income. A taxpayer purchased two large quantities of silver bullion to counter the effects of the devaluation of the pound. The purchase was made following advice and was partly financed by loan. As the purchase was done on a short term basis in order to realise profit. There was an adventure in the nature of trade and was therefore assessed as trading profit.
Existence of similar trading transactions or interests
This is best demonstrated in the case CIR v Fraser  24TC498. In this case the taxpayer was a woodcutter who bought a consignment of whisky in bond. He subsequently sold the whisky through an agent at a profit. Within the decision the judge stated:
‘The purchaser of a large quantity of a quantity of a commodity like whisky, greatly in excess of what could be used by himself, his family and friends, a commodity which yields no pride of possession, which cannot be turned to account except by a process of realisation, I can scarcely consider to be other than an adventurer in a transaction in the nature of a trade… Most important of all, the actual dealings of the respondent with the whisky were exactly of the kind that take place in ordinary trade.’
Changes to the asset
It is important to take note of any changes or modifications made to an asset that may make it more marketable. In the case Cape Brandy Syndicate v CIR – CA 1921, 12 TC 358;  2 KB 403, members of a wine syndicate joined in a separate syndicate to purchase brandy from South Africa. Some was shipped to the East with the remainder being sent to London to be blended with French brandy, re-casked and sold at a profit. The taxpayer tried to argue that the transaction was of a capital nature from the sale of an investment. It was held that a trade or business was carried on and was assessable as a trading profit.
The way the sale was carried out
HMRC states in its guidance that it is always a pointer if a transaction follows that of a ‘undisputed trade’. The case CIR v Livingston and Others 11TC538, involved three unconnected individuals that together bought a cargo vessel. The vessel was converted into a steam-drifter and sold for a profit. The purchase was the first vessel the three individuals bought. An assessment was raised on the profit which was upheld as a trading profit. Within the decision the judge stated:
‘I think the test, which must be used to determine whether a venture such as we are now considering is, or is not, in the nature of “trade”, is whether the operations involved in it are of the same kind, and carried on in the same way, as those which are characteristic of ordinary trading in the line of business in which the venture was made.’
The source of finance
Determining the source of finance is important when deciding whether a trade is carried on. Finance taken out to purchase an asset, in the first instance may indicate that to repay the debt the asset would have to be sold.
This was demonstrated in the Wisdom v Chamberlain – CA 1968, 45 TC 92;  1 WLR 275;  1 All ER 332 mentioned above.
Interval of time between purchase and sale
The length of time an asset is held is an important indicator of trade. The longer the period of ownership the greater the chance of it been seen as an investment rather than a trade. HMRC also look at the intention, if you can demonstrate an intention it could indicate the tax treatment. The two key cases on this are Wisdom v Chamberlain – CA 1968, 45 TC 92;  1 WLR 275;  1 All ER 332 and Marson v Morton – Ch D 1986, 59 TC 381;  STC 463;  1 WLR 1343 both mentioned above.
Method of acquisition
Finally, it is important to look at how an asset is acquired. If it is inherited or gifted it is a good indication that a trade is not being carried, although this is not always the case. An asset acquire at a market could indicate that it has either been purchased for a trade or an investment.
The case Taylor v Good – CA 1974, 49 TC 277;  STC 148;  1 WLR 556;  1 All ER 1137 concerned a taxpayer who purchased a house with the intention of using it as a family home. The taxpayer’s partner did not approve the house and refused to move in, which forced the taxpayer to sell the house immediately. The purchaser genuinely had the intention of not buying the property for a profit motive. As the sale was a short period of time after purchase it was still not deemed to be a trade. Within the decision the judge stated:
‘Even if the house was purchased with no thought of trading, I do not see why an intention to trade could not be formed later. What is bought or otherwise acquired (for example, under a will) with no thought of trading cannot thereby acquire an immunity so that, however filled with the desire and intention of trading the owner may later become, it can never be said that any transaction by him with the property constitutes trading. For the taxpayer a non-trading inception may be a valuable asset: but it is no palladium. The proposition that an initial intention not to trade may be displaced by a subsequent intention, in the course of the ownership of the property in question, is, I think, sufficiently established…’
This is only a summary of the badges of trade and leading tax cases.
The Singapore High Court (SHC) has recognized the applicability of the traditional six “Badges of Trade” outlined in the Final Report of the 1954 UK Royal Commission on the Taxation of Profits and Income
In the case of cryptocurrencies, certain observations can be made as to how the “Badges of Trade” might be applied.
First, with regard to the subject of realization, the traditional test is whether the asset was not of a kind normally used for investment, but for trading. Unfortunately, the fact that cryptocurrencies are a relatively new asset class makes it difficult to conclusively determine whether they are normally used for investment or trading. Things are further complicated by the fact that not all cryptocurrencies are created equal, with some being more stable than others and, therefore, lending themselves better to long term investment.
Second, with regard to the length of period of ownership, it appears to be well-established that the periods indicative of trading do depend substantially on the nature of the asset in question. For real property, the position in the relevant Singapore cases seems to be that a period of more than six years constitutes a long period of holding. Unfortunately, the only case at the moment involving the disposal of shares are the GBU v. CIT (2017) and CIT v. BBO (2014) cases, which have very specific circumstances that affected the assessment of the holding period. Accordingly, they are difficult to rely on as a basis for determining what a “long period holding” might mean for shares. Cryptocurrencies can be rented out but the focus is usually on profiting from an appreciation in their value. So they are arguably a lot more similar to shares than real property. While shares may sometimes still be traded in physical form, share trading has largely been digitized in many jurisdictions. Cryptocurrencies have the largely intangible nature of shares. Also, unlike land and shares, cryptocurrencies do not have any inherent utility by themselves. They cannot be “enjoyed” in the same way that one can, for example, occupy and use land. While it may sometimes be possible for there to be somewhat similar distributions in the forms of “airdrops” or “hard forks”, these are not particularly common for the established cryptocurrencies. Once again, there is not much guidance on this point, due to the dearth of cases involving disposals of cryptocurrencies to date.
Third, there is a similar issue with the frequency or number of similar transactions. Once again, there is no reliable indication of what number of similar transactions might suggest trading in the context of shares, which are arguably the most similar asset class to cryptocurrencies. However, it should be noted that the number of transactions, viewed in isolation, is not determinative. With regard to individuals, it appears that one or two isolated transactions in real property is insufficient to suggest trading. ]However, things appear to be different for companies, where there seems to be a presumption that even a single transaction may be sufficient to suggest that a company may be trading. Consequently, it might well be the case that companies making gains from the disposal of cryptocurrencies may have a much more difficult time establishing that they were not trading.
The fourth point is general and is not specific to cryptocurrencies. Some cases have recognized that the accounting treatment of assets is relevant to show what the intentions of the taxpayers were at the material time. Other cases have been more dismissive.
Fifth, with regard to the method of financing, it appears to be the case that the heavier the external financing taken out to purchase the asset in question, the more likely it is for the taxpayer to be found to be trading. Accordingly, in the case of cryptocurrencies, investment strategies that involve a large amount of “gearing” or leveraging by borrowing are likely to militate towards an inference that the taxpayer is trading.
Given that cryptocurrencies are a relatively new class of assets, it is difficult to determine the length of period of ownership and frequency of transactions that would indicate the existence of a trade, but some guidance may be drawn by analogy with other asset classes. It can be argued that the larger the amount of loans taken out to finance the cryptocurrency transactions, the more likely it is for a trade to be determined.
Section 10(1) of the ITA in Singapore sets out six heads of charge, under which profits or gains are liable to tax in Singapore. For cases involving the disposal of an asset, the heads of charge which are most likely to be relevant are section 10(1)(a) (gains or profits from any trade, business, profession or vocation) and 10(1)(g) (any gains or profits of an income nature not falling within any of the preceding paragraphs, also commonly known as “all other income”) of the ITA.
Income taxable under section 10(1)(a) of the ITA is not restricted to trade income, but can also include gains or profits from any business, profession or vocation. In the case of disposals of assets, trade income is likely to be the most relevant, but it is also possible to argue that the gains are business income. In practice, the IRAS generally favours assessing gains from the disposal of assets as “trade income” rather than “business income”. A “business” refers to a “wide group of activities that are not purely recreational, that are commercially undertaken and usually, but not necessarily, for profit”. Such a business must be “carried on”, which, in turn connotes, a “habitual and systematic operation, a continuity or repetition of acts or similar operations”
The tax authorities may be more likely to succeed under an assessment based on section 10(1)(a) because the taxpayer would not have the framework of the “Badges of Trade” framework on which to prove its intention, and may have the burden of showing that it acquired the assets with the intention of holding them as long-term investments. Please keep that point in mind – the taxpayer has the burden of proof when it comes to capital gains.
Gains on the disposal of assets can be treated as income if a company’s business activity is mainly trading in such assets for profit. Other gains are generally classified as capital in nature and not taxable. For instance, if your company sold a factory machine used for inventory production at a gain, the gains are treated as capital in nature and not taxable. Companies that had bought machines and other fixed assets are able to claim capital allowance that is deductible against business income, hence lowering final taxes payable. So sale of an asset used in the production of income can be argued to be capital gains. Sale of the assets which is bought and sold in the ordinary course of income is usually trading income. Indeed holding crypto / virtual assets in an entity in the first place? It strongly suggests that income produced therefrom would be trading in nature.
It is also the case that unabsorbed losses in respect of section 10(1)(a) of the ITA can be carried forward for set-off against the statutory income of future years of assessment and also allow for the deduction of capital allowances.
Companies or individuals may consult a tax professional should they have issues in distinguishing business income and capital gains. A qualified tax professional can ease your tax filings procedures.