As a relatively new type of asset, cryptocurrencies and blockchain technology have resulted in several uncertainties over their taxation. There is no specific tax legislation regarding these assets, so they are instead covered by broader tax rules. HM Revenue & Customs (HMRC) have been producing guidance to assist taxpayers but there are still areas of uncertainty, contention and practical problems, most notably when it comes to valuations, record-keeping and the situs of cryptoassets.
Income tax
An individual will be subject to income tax on the profits made when disposing of cryptoassets, if they are classed as ‘trading’. As with trading in shares, the threshold to be considered trading is relatively high – the operation must show substantial frequency in transactions, organisation and sophistication. This will ultimately be a question of fact, and will depend on the specific circumstances of each case. In practice it is very unlikely that HMRC will accept that an individual is trading in cryptoassets.
Cryptocurrencies received through either mining or staking (both ways of receiving new cryptocurrency by verifying transactions on the blockchain) will be taxed as income either as a trade or miscellaneous income depending on the circumstances.
There is a common misconception that cryptocurrencies are taxed as gambling winnings, which would mean that no profit would be taxable and no relief available for losses. This position was based on historic HMRC guidance, but HMRC have now updated their guidance to confirm that they do not consider transactions in cryptocurrencies to be gambling.
Capital Gains Tax (CGT)
Individuals not treated as trading will be subject to CGT on the profits they realise on disposing cryptocurrencies. If any amount has been subject to income tax when obtained (for example, as a result of mining, or as employment income) then the amount previously taxed will form the base cost of the asset for these purposes.
Capital gains on cryptocurrencies of the same type need to be calculated by following ‘pooling’ rules with normal matching rules applying. Different pools will be required for each cryptocurrency. It is also important to realise that a disposal of cryptocurrency takes place not only when they are exchanged for cash, but also if they are used to make purchases of other cryptocurrencies.
Several practical issues can arise for share pooling calculations:
- Due to the way pooling and matching works, all cryptocurrency transactions of an asset need to be included in the calculations. Often these transactions can be spread across multiple wallets. The pooling therefore needs to be constructed from multiple sets of records.
- A high quantity of transactions can often be made every year. Due to the various rules in calculating pooling the CGT calculations can often become time consuming and costly.
- Transaction records are sometimes only recorded or retained in wallets for a limited time. It is important that these are exported to a more permanent record to avoid key data being lost when relevant filing or potential HMRC enquiries arise.
- Much like shares, not all cryptocurrencies have values listed publicly. If these are exchanged or subject to income tax on acquisition (eg mining) then the value of the asset will need to be calculated.
Foreign currency
HMRC expect records, calculations and reporting to all be undertaken in GBP. Therefore, like other assets, it is possible for capital gains to arise when exchange rates move, even if the value of the asset expressed in a non-UK currency remains the same. Where value may be recorded in different cryptocurrencies (usually Bitcoin) a double conversion will be required (Bitcoin value to USD, USD to GBP). This can add further complexity to the calculations.
Employment tax
It has become more common, particularly for companies operating within the crypto-space, for employees to be paid in cryptocurrencies as opposed to cash. If the cryptocurrency is a readily convertible asset (broadly relatively easily changed into cash) it will be subject to PAYE – otherwise it will be taxable as a benefit in kind. This will also affect which type of National Insurance contributions are payable.
Situs
The situs of a cryptocurrencies can be very important in determining the tax position for a non-domiciled individual, who may be taxable on the remittance basis or attempting to manage their exposure to UK inheritance tax. The HMRC manuals currently state that the taxation of cryptocurrencies will follow the residency of the owner, such that cryptocurrencies held by a UK tax resident individual would be UK situs.
This position has been subject to debate as, while it is practically the most feasible, it does also create some inconsistencies – for example the same cryptocurrency, owned by two separate individuals living in different countries, would have a different situs. This is at odds with other assets such as cash or shares, where the residency of the owner is largely irrelevant.
Clarity on this is likely to be determined by case law or the introduction of specific legislation. In the meantime, many UK tax resident individuals may continue to file tax returns on the basis that their cryptocurrencies are non-UK situs. It will be important to make the relevant disclosures to reduce the risk of penalties should HMRC successfully challenge this position.
If you have any specific queries relating to cryptoassets, please speak to your usual Saffery Champness partner or contact Robert Langston, National Tax Partner.
