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If you have employees who are paid in cryptocurrencies, or they hold or trade cryptocurrencies, then there are some UK tax implications that you – and they – need to be aware of.

How is crypto taxed?

First, let’s dispel the myth: cryptoasset trading is not classified as gambling. Although it may seem like it to many traders, cryptocurrency is not considered a ‘currency’ in the UK.

In fact, Her Majesty’s Revenue and Customs (HMRC) wrote an entire manual without using the word cryptocurrency. Instead, he calls them a crypto-asset.

When you buy cryptocurrency, you acquire an asset – albeit a digital one – that is subject to capital gains tax (CGT). This is the same tax that covers other capital assets such as stocks and shares or investment properties.

CGT is a tax levied on the increase in property value. For example, let’s say I bought one Bitcoin in 2017 for £3,000 ($3,500) and sold it in 2021 for £29,000 ($34,000). I made a capital gain of £26,000 ($31,000).

Conversely, if I bought one Bitcoin in 2021 for £35,000 ($41,000) and sold it in June 2022 for £19,000 ($22,000), I would have a capital loss of £16,000 ($19,000).

This is important to note, as capital losses can be used to offset capital gains. If at the end of the tax year, after considering all my transactions, I have a capital loss, that loss can be carried forward to the next tax year to be offset against any capital gain I might make.

How are capital gains calculated?

At a very basic level, we simply need to take into account the value of the asset when it was disposed of and then subtract the value of the asset when it was acquired. If this value is positive, there is a gain, if it is negative, then there is a loss.

Acquisition costs and costs of selling assets can also be taken into account to reduce agina (this is particularly relevant for trade-in fees and gas fees).

At the end of the tax year, if gains less losses are greater than the annual exemption of £12,300 ($14,500), then tax will be payable on the total gain.

If an individual is a basic rate taxpayer – their total income is less than £50,270 ($59,500) – then they will pay capital gains tax at a rate of 10% on any remaining basic rate band that is available. Any gain that does not exceed the basic rate range is taxed at a rate of 20%.

For more information on how to report a gain to HMRC, see this article.

What are some of the complications when calculating capital gains?

The Bitcoin scenario used earlier is simple and works for asset classes such as rental property where there is a single asset being sold. In crypto, it would be very rare for an individual to buy a single token and then release it, without undertaking other transactions.

Let’s say I bought two Ether (ETH) in one transaction in 2019 for £600 ($710). In 2020 I bought another five ETH for £3,500 ($4,100). Today I bought 0.5 ETH for £600 ($710) but then decided to sell 0.75 ETH for £950 ($1,100). I know my sales revenue should be included in the calculation, but what was the price of the 0.75 ETH I sold?

This is where the tax rules get complicated; there is a set of rules known as “matching rules” that need to be considered to assign the correct base cost in the following order:

  1. Funds acquired on the same day as disposal (“same day rule”).
  2. Shares acquired within 30 days of disposal (“bed and breakfast rule”).
  3. Shares in the joint holding (“s104 pool”).

In the ETH example, I should first match the acquisition price on the same day, but this does not cover the entire asset sold, so I would either have to match the further costs if I bought more ETH within 30 days, or take part of the pooled assets (ie. average cost of acquisitions).

Given the ease with which crypto transactions can be undertaken compared to other asset classes, applying these rules can be incredibly time-consuming when an entire tax year has to be considered.

More information about these rules can be found here.

Alienation of property

Another misconception in crypto is that you are only taxed when you convert your tokens back to fiat. This is simply not true. Alienation of property can take different forms.

Here are some examples of where there is a tax point for capital gains tax:

  1. Depositing tokens into fiat on an exchange, but reinvesting that fiat into another token.
  2. Token exchange through a decentralized exchange is the disposal of one asset and the acquisition of another asset.
  3. Acquiring NFTs (depositing one type of token and receiving another type of token).
  4. I am selling NFT.

As you can see from the above examples, it is quite possible to collect a large number of different tax points through numerous crypto currency transactions without having any fiat assets to settle any tax liabilities that may be due.

Investing versus trading

Investment in funds is subject to capital gains tax, at capital gains tax rates (10%/20%). However, enough factors may lead HMRC to determine that the activity is a trading activity, which would be subject to income tax at much higher rates (20%/40%/45%).

In order to determine whether an activity is a trading activity, HMRC relies on the ‘marks of trade’ tests to determine whether there are profit-making motives. These factors are largely derived from case law over the years and include tests such as:

  • Number of transactions.
  • Nature of property.
  • The time interval between buying and selling.
  • The manner in which the sale was made.

For more information see here.

HMRC’s cryptoasset handbook says: “Only in exceptional circumstances would HMRC expect individuals to buy and sell exchange tokens with such frequency, level of organization and sophistication that the activity itself constitutes financial trading.”

At the time of writing, it is not clear what constitutes “exceptional circumstances”. To date, there has not been sufficient case law to test an investment versus a trading position for cryptocurrencies, but if you are concerned about your ventures, it is recommended that you seek professional advice.

Are some crypto transactions subject to income tax?

Yes!

If you receive tokens for performing any service or for selling any goods, then the tokens you receive will be subject to income tax (at the fixed rate at which the tokens were received).

Prizes are also subject to income tax. These rewards may be received as a result of mining or investing tokens on an exchange or platform.

Airdrops received for any active participation – marketing ventures, project “shilling”, providing services – will also be subject to income tax. However, any airdrops received where nothing was done to “earn” them and are not part of a trade or business involving token exchange or mining are not subject to tax.

If you receive cryptocurrencies as part of your trading, then these amounts would be taxable on your return as trading income.

Crypto received outside of trading would be taxed as miscellaneous income on a tax return. There is also a £1,000 ($1,200) allowance for miscellaneous income. If the receipts are less than that, they do not have to be declared in the tax return. If income is greater than £1000 ($1200), then there is a choice to offset the fee or use expenses to offset miscellaneous income.

Can I pay my employees in crypto?

If you pay employees in cryptocurrency, then the value of the cryptocurrency paid to employees is subject to Pay What You Earn (PAYE) and National Insurance (NI), in the same way as normal wages would.

If payments are made to contractors in crypto-assets, then there is no further obligation on the company, the contractor should ensure that the amounts they receive as income for their services are declared on their tax return.

Additional information

Taxation of cryptocurrencies varies significantly depending on the number of transactions and different elements within the space (this article did not consider decentralized finance (DeFi) taxation, which will be covered in a separate article).

HMRC’s guide to cryptoassets can be found here.

In addition to receiving crypto-assets through employment, it is the responsibility of individual taxpayers to ensure that they disclose relevant information to HMRC.

If this article or HMRC’s Crypto Assets Handbook has left you more confused than when you started, talk to your accountant or tax adviser.

Ben Lee​ is a partner at PKF Francis Clark.

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