Tax treatment of cryptocurrency

If you’re thinking of investing in a virtual currency (or have already taken the plunge!), this blog discusses the tax treatment of cryptocurrency and what happens should you realise a profit (or loss) at a later date.

Please be aware that Cryptocurrency is a new industry and the rules around how any gains or losses are treated have not been fully tested or determined in any legal cases.  This blog sets out how we consider HMRC will look to tax this emerging market.​

Tax treatment of cryptocurrency

What is a cryptocurrency?

A cryptocurrency is a digital virtual currency that uses encryption technology, or cryptography, in its creation to ensure the security of transactions involving its use.

The first cryptocurrency was Bitcoin - other examples are Ethereum, LiteCoin and Ripple.

It is important to mention that there is no settled international consensus of the legal status of cryptocurrencies. The Bank of England consider that they perform the role of money only to some extent and only for a small number of people, whilst the European Central Bank does not regard cryptocurrencies as full forms of money as defined in economic literature.

The legal status of cryptocurrencies is an area that is now receiving more and more attention as demand grows and the possibility of virtual money going mainstream means that the law is likely to evolve quickly over the coming years.

Tax treatment of cryptocurrency in the UK

HMRC set out their view in Revenue and Customs Brief 9 (2014): Bitcoin and other cryptocurrencies which you can see here.

HMRC state that, as with any other activity, whether the treatment of income received from and charges made in relating to cryptocurrency is subject to Income Tax, Corporation Tax or Capital Gains will depend on the activities and the parties involved.

Whether any profit or gain is chargeable or any loss is allowable will be looked at on a case-by-case basis, taking into account the specific facts. Depending on the circumstances, HMRC might consider a transaction highly speculative and therefore any profit arising will not be taxable nor any losses relievable.

For example, internal guidance from HMRC, indicates gambling or betting wins are not taxable and gambling losses cannot be offset against other taxable profits.

Tax treatment of cryptocurrency – rules for individuals

Income tax treatment

For income tax rules to apply the cryptocurrency activity must be recognised as a trading activity.  HMRC apply a series of tests known as ‘The Badges of Trade’ to determine whether a trading activity has taken place.

Put simply, HMRC will apply these ‘badges’ to a transaction or series of transactions and then consider whether this amounts to a trading activity.

For example, an individual buying and selling cryptocurrencies on a very significant scale by investing significant sums of their own and/or other people's money, and also investing considerable amounts of time and energy, is very likely to be considered as trading.

If this applies, any profits from this activity will be subject to income tax at an individual’s marginal rates (20%, 40% and 45%).  Additionally, Class 2 and 4 National Insurance will also be due at the current rates applicable.

Capital gains tax treatment

HMRC’s view on the tax treatment of cryptocurrency where transactions are regarded as an investment (rather than a trade) is that they should be treated as a foreign currency.

In their guidance HMRC indicate that foreign currencies are 'chargeable assets' for Capital Gains Tax (‘CGT’) purposes.

Therefore, if cryptocurrency is bought and subsequently sold, any gain realised following conversion of the purchase and sale prices into the Pound/Sterling exchange rate (on the relevant dates of sale and purchase) is subject to CGT at the appropriate rates.

Similarly losses realised in the same way can only be relieved against capital gains chargeable to CGT.

HMRC have recently updated their manuals indicating that the share matching rules may apply where the CGT treatment applies to cryptocurrency transactions. You can use a tool on this site here to help you with the calculations.

One point worth mentioning is that there is an exemption from CGT for foreign currency bank accounts.

Bitcoin are stored in a wallet that comes in two main types - either a 'web wallet' or a 'hosted wallet' (a wallet hosted by a third party).  There is a strong argument that a 'hosted wallet' is the equivalent of a foreign currency bank account which would mean that disposal of Bitcoin should be exempt for CGT purposes.

A cryptocurrency similar in nature to Bitcoin and held in the equivalent of a “Bitcoin wallet” might therefore be exempt from CGT.  However be aware that this would, again, depend on the individual circumstances and HMRC are likely to argue strongly that Bitcoin does not meet the rules for foreign currency transactions.

Tax treatment of cryptocurrency- rules for companies

Companies are usually prohibited by their Memorandum and Articles of Association from out and out gambling. Therefore speculative transactions in cryptocurrencies such as trading in Bitcoin will invariably be regarded as trading for tax purposes.

The trading profits of a single company are subject to corporation tax and any trading losses may be dealt with in one of the following three ways:

  • Offset against the company’s total profits of the same accounting period.
  • Relieved against the company’s total profits for the previous accounting period - this is usually the preceding 12 months.
  • Carried forward and offset against the company’s profits from the same trade in a subsequent accounting periods

If a company's profits and losses relating to cryptocurrency transactions do not amount to trading the non-trading loan relationship (NTLR) income and expenses rules are likely to apply.

NTLR income is subject to corporation tax and NTLR expenses of a single company are either:

  • Offset against the company’s total profits of the same accounting period.
  • Relieved against NTLR income for the previous 12 months.
  • Carried forward and offset against the company’s nontrading profits in subsequent accounting periods

Tax treatment of cryptocurrency - VAT rules

Broadly speaking, activities in cryptocurrencies that are similar to Bitcoin 'mining' fall outside the scope of VAT, whilst trading in cryptocurrencies are exempt supplies for VAT purposes.

Recent developments from HMRC

Whilst HMRC have previously stated matters will be dealt with on a 'case by case' basis this copy correspondence provides some further insight.

Again, we would stress that this is an emerging market and we are providing guidance as to how these rules might apply (if at all).

For more useful information, check out our Ebooks here.

And if you'd like to know how we can help you with all of this, or with anything else, feel free to give us a call on 01202 048696 or email us at [email protected].

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