Cryptocurrency and tax – cryptocurrency to cryptocurrency transactions
Most cryptocurrency transactions will involve the exchange of one cryptocurrency for another cryptocurrency (‘crypto-to-crypto’). Put another way, the majority of transactions that are undertaken will not involve a conversion to a fiat currency, such as US or Australian dollars.
It is important for those holding or investing in cryptocurrencies to understand that crypto-to-crypto exchanges can give rise to tax implications.
Unfortunately, there is little case law guidance on crypto-to-crypto transactions, and only broad guidance from the Australian Taxation Office (ATO), as to when (and how) these tax implications will arise and how they will affect individual taxpayers.
The first article in this series discusses the tax implications of crypto to crypto transactions, as well as some thoughts on the ATO’s guidance regarding the tax treatment of cryptocurrencies.
The important message to take away is that while the ATO has progressed its thinking and guidance regarding the taxation of cryptocurrency, this will not cover every situation and transaction.
Our follow-up articles in this series will discuss:
- recently-released guidance that outlines the ATO’s expectations in relation to record keeping;
- determining the ‘market value’ of cryptocurrency; and
- hard forks.
Given the ATO’s view that Bitcoin (and other crypto or digital currencies that have similar characteristics) is a Capital Gains Tax (CGT) asset, the conventional (technical) view is that each crypto-to-crypto transaction will give rise to a taxable event.
In other words, no matter the size or timing of the transaction, each time that you trade a whole or part of a cryptocurrency for another cryptocurrency, you will have to account for any taxable gain or loss that you make.
If you are holding the relevant cryptocurrency on capital account, each crypto-to-crypto transaction will give rise to a disposal and therefore CGT event A1. If the market value of the cryptocurrency that you receive is more than the cost base of the cryptocurrency you have disposed of, you will make a capital gain. Alternatively, if the market value of the cryptocurrency that you receive is less than the cost base of the cryptocurrency you have disposed of, you will make a capital loss.
Any capital gain may be reduced by the 50% CGT discount, the personal use asset exemption or the small business CGT concessions, depending on your circumstances. For example, if you have held the relevant cryptocurrency for 12 months, you will be able to apply the 50% CGT discount to reduce any capital gain.
It is not surprising that many taxpayers who were early acquirers of cryptocurrency and who have made substantial gains, will argue their cryptocurrency was acquired on capital account and focus their attention on the availability of the 50% CGT discount and other available concessions, including whether the gain is entitled to the personal use asset exemption.
If you are holding the relevant cryptocurrency on revenue account, the conservative view is that each crypto-to-crypto transaction will give rise to a taxable ‘realisation’. Any ‘net’ profit you make, being the difference between the cost of the relevant cryptocurrency and the market value of the cryptocurrency that you receive in return, will be included in your assessable income. If you have made a loss, that loss will be deductible to you (and can be applied against other income you derive).
More recent acquirers of cryptocurrency who realised falls in their investments will be focussed on demonstrating that their holdings were on revenue account, so their losses can be deducted against their other income, such as salary or wages.
Limitations of the ATO’s guidance
The key question for the tax treatment of crypto gains and losses is whether the underlying cryptocurrency was acquired and held as an investment or as a speculative, profit-making or business venture.
The ATO states in its website guidance that taxpayers who acquire cryptocurrency as an ‘investment’ may make a capital gain on disposal. The ATO does not elaborate on the meaning of ‘investment’, or whether a cryptocurrency which does not offer a periodic return can be held as an ‘investment’.
Understandably, this leaves many taxpayers uncertain about whether their cryptocurrency are held on capital or revenue account.
This is compounded by the fact that, in its website guidance, the ATO provides limited commentary on the circumstances in which cryptocurrency will be held in the course of carrying on a business (and therefore as trading stock), or as part of a profit making undertaking or plan (and therefore as a revenue asset, although not as trading stock).
In fact, the ATO website appears to suggest that taxpayers who have acquired cryptocurrency with an intention to make a profit (or with a genuine belief that they will do so), in contrast to holding it as an investment (albeit to make a profit), will hold their cryptocurrency as trading stock.
The important distinction, which the ATO website guidance does not address, is that while assets (including cryptocurrency) can be held on revenue account they will not always be trading stock.
The significance of this distinction is that generally, an increase in your trading stock’s value over the year is assessable income, while a decrease is an allowable deduction. This is a particularly valuable trait of the trading stock rules in circumstances where assets fall in value, as it will allow ‘paper (or unrealised) losses’ to be deducted against their other income, such as salary or wages.
Conversely (and outside of a business context), where an asset is held on revenue account but not as trading stock, a gain or loss is ordinarily only derived or incurred (as the case may be) when the asset is disposed of; that is, ‘paper losses’ will not be deductible.
For businesses that have received cryptocurrency as payment for goods or services, it will be vital to understand whether the cryptocurrency received is held as trading stock.
Generally, if you receive cryptocurrency for goods or services you provide as part of your business, you need to include the value of the cryptocurrency in Australian dollars as part of your ordinary income. However, if the cryptocurrency you have received later falls in value, a deduction may not be available for the loss in value (ie the ‘paper loss’) unless that cryptocurrency is held as trading stock.
Importantly, a question arises about whether cryptocurrency will be trading stock if it is received by a business as payment, but it is not held for exchange in the ordinary course of a business. An example may include a business which is paid in cryptocurrency that is then held for ‘investment’ purposes (ie the business does not actively trade in cryptocurrency).
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