At the time of writing, Bitcoin is trading at $53,000 (over £37,000).
A few days ago, its value reached an all-time high of $58,000. Other cryptotokens have also soared in value.
Given the surge in cryptoassets values, it is even more important for investors, and their advisers, to be familiar with how crypto profits are taxed.
Cryptocurrencies and capital gains tax
UK tax legislation is silent on the taxation of cryptoassets. However, HMRC has set out its current approach to the taxation of cryptocurrencies in its December 2018 and December 2019 policy statements.
Firstly, HMRC does not accept that Bitcoin and other cryptoasset are “currencies”.
It considers that the gains of most individuals on the disposal of cryptoassets will be subject to capital gains tax rather than income tax.
HMRC considers that cryptocurrencies are subject to the share pooling rules that require disposals to be matched to acquisitions in the following order:
1. To acquisitions of the same token on the same day;
2. To acquisitions of the same token within the next 30 days;
3. To a pool of the same token.
Where there has been a high volume of transactions, the application of these rules can be complex, particularly as cryptocurrency platforms do not provide their users with end of tax year reports showing their gains and income for UK taxation purposes.
What is a disposal?
Disposals include sales of cryptoassets for “fiat currencies” (i.e., sterling, dollars, euros, and other currencies), gifts to other persons, companies and trusts and, crucially, the exchange of cryptoassets for other cryptoassets.
Therefore, it is essential to appreciate that gains and losses must be calculated each time a cryptoasset is exchanged for another. It is not sufficient to calculate the gain with reference to an initial investment (e.g., in sterling) with what is ultimately received (again, e.g., in sterling) when the cryptoasset is disposed of for cash. Rather, each transaction must be converted into sterling at the date of the transaction and a gain or loss calculated at that point.
Such calculations may be challenging, particularly if there is a high volume of transactions.
It may mean that individuals, especially those who undertaken a high volume of transactions between different cryptoassets, may not have an accurate view of their capital gains tax position unless they regularly recompute their gains and losses with reference to sterling. As such, it is possible for an individual who may have invested, for example, £100,000 into cryptoassets, and to have received (say) only £50,000 back to consider that he or she has made a loss but nonetheless for UK taxation purposes to have realised net gains because of the gains and losses realised on individual transactions.
It would therefore be prudent for investors to review their capital gains tax position on an ongoing basis, rather than after the end of the tax year, to ensure that they reserve sufficient fiat currency to meet any capital gains tax liability that arises. If not, there is a risk that they might realise unexpected capital gains, yet because of adverse movements in values of cryptoassets, to have a portfolio worth less than their tax liability when they come to pay the liability by 31 January following the end of the relevant tax year.
Non-dom taxpayers and cryptocurrencies
Non-UK domiciled individuals may elect for the remittance basis of taxation so that foreign income and gains are subject to UK taxation only to the extent that they are remitted to the UK.
It might be thought that cryptotokens, relying on distributed ledger technologies which are in effect “nowhere” would be non-UK situs assets and, as a result, non-dom taxpayers would be able to elect for the remittance basis of taxation so that gains on the disposal of cryptotokens were not taxable in the UK unless the proceeds were remitted.
HMRC’s view, in its policy statement of December 2019, is that the situs of cryptotokens (specifically, “exchange tokens”) follows the residence of the beneficial owner. Consequently, if an individual is UK tax resident, then cryptotokens, such as Bitcoin, that they may hold, will also be UK situs, and therefore, gains arising on the disposal of such tokens, will (in HMRC’s view at least) be subject to UK taxation, even if the individual elects for the remittance basis of taxation.
Non-dom taxpayers may therefore wish to consider alternative structures for holding cryptoasset investments. For example, if the individual settled a non-UK trust which, in turn, held a non-UK company which invested in cryptoassets, the gains arising on the disposal of the investment would be taxed on them only to the extent that they were distributed to them. However, given HMRC’s argument that cryptoassets are UK situs, care would be required if existing holdings were transferred into trust since this could give rise to an immediate charge to inheritance tax.
In particular, following the appreciation in values of tokens in the 2020/21 tax year and the potential for significant gains, cryptoasset investors should also ensure that they have claimed any available capital losses.
Capital losses on cryptoassets, or any other assets, are available to set against gains of the same or future tax years.
Losses must be claimed within four years of the end of the relevant tax year, whether through the tax return, or by separate claim to HMRC. Losses for the year ended 5 April 2017 must therefore be claimed by 5 April 2021. Claims for previous years are out of time.
HMRC’s guidance on cryptoassets has clarified also that claims for losses might also be possible where individuals lose private or public keys to their cryptoassets and where there has been theft or fraud.
If an individual misplaces their private key, they will not be able to access the cryptoasset in question. Even though the key might be misplaced, the cryptoasset in question would still exist on the distributed ledger and, as a result, the loss of a key would not count as a disposal for capital gains tax purposes. However, HMRC consider that if it can be shown that there is no prospect of recovering the private key, or otherwise accessing the cryptoassets held in the corresponding wallet, a negligible value claim might be possible. If such a claim is accepted, the individual will be deemed to have disposed of the asset, and reacquired it on the same date for nil consideration, with the result that they crystallise a loss equal to the acquisition cost of the asset. That loss will be available to set against gains of the same or future tax years.
Negligible value claims might also be possible where the holder has been the victim of theft or fraud.
If HMRC accepts the negligible value claim, the individual would be treated as if he or she had disposed of the cryptoassets and bought them back for nil value, thereby creating a loss, at the earlier of the date the claim is made and a date in the previous two tax years if the cryptoassets became worthless at that time or earlier.
HMRC compliance activity
HMRC shows growing interest in the taxation of cryptoasset. In August 2019, it contacted at least three UK exchanges to request information on the users of its platform.
At least one of the exchanges, Coinbase, agreed to provide customer information to HMRC where they had deposits, sold, etc., more than £5,000 in the year ended 2019.
Given HMRC’s increased activity, it is particularly important that taxpayers consider carefully whether their cryptoasset activities have been disclosed on the relevant self-assessment tax returns.
If you wish to discuss any of the above or other aspects of the taxation of cryptoassets, please contact us.