If you find a Bitcoin under the Christmas tree, should you be worried about a tax bill?
Tax Alert - February 2018
By Ian Fay
If you found a bitcoin under the Christmas tree, should you be worried about tax a bill? If you don’t know, you are not alone, as even Inland Revenue hasn’t yet provided any guidance on how the tax rules apply to cryptocurrencies, although we understand they are working on it and expect to publish a Q&A shortly.
Bitcoin experienced explosive growth in value in the period leading up to Christmas followed by a quick and large loss of value (almost two thirds) in the early part of 2018, and this naturally raises questions of how revenue authorities should be taxing cryptocurrencies generally.
A cryptocurrency is a digital “currency” in which encryption techniques are used to regulate the generation of units and verify the transfer of ownership, operating independently of a central bank. When you buy cryptocurrency it is held in a ‘digital wallet’, and can then be used to buy goods or services from anyone willing to accept it. Cryptocurrencies can be bought and sold on cryptocurrency exchanges (and you won’t actually find one under the Christmas tree, since they’re all just lines of code).
In terms of legal status, the Financial Markets Authority considers that cryptocurrencies are not legal tender (and this is the same around the world). Rather, most cryptocurrencies are intrinsic tokens (i.e. they are not pegged to a dollar or paying any sort of dividend).
The correct tax treatment will depend on the characteristics of the currency. The most likely is that they would be treated as property, which means that any gains (or losses) on sale would be taxable (or deductible) – again, this isn’t certain, as the rules on property sales depend on the reason the property was acquired. Inland Revenue have indicated that it is likely to take the view that intrinsic token type cryptocurrencies are property and should be treated in the same way as gold bullion – ie, in almost all circumstances it will be acquired for the purpose of disposal (refer to our October Tax Alert for a brief summary of the Inland Revenue view on gold bullion). The holder of a cryptocurrency would have to demonstrate that it wasn’t held for sale to convince Inland Revenue of any other outcome – for example if it provides an income stream during the period of ownership (like the dividend payable on a share). The alternative way of taxing cryptocurrency would be to treat it as a financial arrangement, akin to currency, which, depending on the value of the cryptocurrency held, could mean that unrealised gains are taxable.
Other countries are also grappling with the right way to tax cryptocurrencies. In the United States, the IRS has released guidance that cryptocurrency is property when held on capital account, and gains are subject to capital gains tax. Miners of currency should pay tax on the value of the currency they receive. Similarly, both the UK and Australia tax gains from the sale of cryptocurrencies under their capital gains tax rules.
However, the more immediate concern is that the GST treatment of cryptocurrencies is more complex, and this requires prompt movement by Inland Revenue to provide certainty and, ideally, simplicity. Currently buying cryptocurrencies and then using them to buy other goods and services could result in double tax. The purchase of the unit of cryptocurrency from a New Zealand GST registered business would be subject to GST, and then any subsequent purchases from a New Zealand GST registered business with the cryptocurrency would also be subject to GST. Deeming cryptocurrencies to be currency for GST purposes would remove GST from the sale or purchase of any units, solving the double tax problem. Australia is moving to treat cryptocurrencies like a currency for GST purposes (from 1 July 2017) for this reason. It would be useful if Inland Revenue moved quickly to adopt the same position in New Zealand.