Tax
Recap's concise UK crypto tax guide
We put together a short guide covering the most important areas of UK cryptocurrency taxation - voila!

Introduction to Cryptoassets and Recap

Cryptocurrencies are a new asset class that has been developed over the last decade. They have changed dramatically throughout this time, and so has the government regulation surrounding them.

Recap, alongside UK tax accountants, have produced this concise UK Cryptocurrency Tax Guide. This guide is a shorter version of the comprehensive UK Cryptocurrency Tax Guide, which can be found here.

Recap is the UK focused cryptocurrency tax calculation software with end-to-end encryption. We make calculating capital gains tax positions relating to cryptocurrencies simple. Recap’s founders Ben and Dan helped to define the UK’s regulatory position on Bitcoin and cryptocurrencies in 2013 and have been involved in the industry since then.

Disclaimer: This guide is intended as an informative piece. This is not accounting or tax advice. Please speak to a qualified tax professional about your specific circumstances before acting upon any of the information in this guide.

What are Cryptoassets?

HMRC defines cryptoassets as “cryptographically secured digital representations of value or contractual rights” that have the potential to be transferred, stored and traded electronically [1].

Which taxes apply?

Either Capital Gains Tax or Income Tax. Anyone who uses cryptoassets needs to consider if they are engaged in financial trading in cryptoassets, rather than simply assuming they are taxed under the capital gains tax regime (as an investor).

Individuals who are classified as financial trading in cryptoassets are required to pay income tax and national insurance on their profits, rather than capital gains tax on their gains that investors pay. Therefore, being classified as a trader rather than investor usually results in a higher tax bill. Fortunately, HMRC has stated that the classification of cryptoasset users as traders is “likely be unusual”, and most cryptocurrency users will be required to follow capital gains tax rules.

Capital Gains Tax and Cryptoassets

Most transactions involving cryptoassets are subject to Capital Gains Tax (CGT). Individuals must calculate the gain or loss they have made whenever they “dispose” of cryptoassets. HMRC guidance confirms that disposals (taxable events) include:

  • Selling cryptoassets for fiat money (e.g. GBP, USD, EUR)
  • Exchanging cryptoassets for a different cryptoasset (e.g. exchanging Bitcoin to Ripple)
  • Using cryptoassets to pay for goods or services (e.g. paying fees on trades, paying fees on withdrawals and deposits of cryptoassets or buying a Starbucks Coffee
  • Giving away cryptoassets to another person

Moving tokens between wallets owned by the same person does not result in a disposal.

How do I calculate the Capital Gains position?

The allowable costs are deducted from the disposal proceeds, to calculate the gain or loss on each and every disposal made in the tax year.

If the net gain (after the offset of losses in the year) is more than the annual CGT exemption (currently £12,000 in 2019/20), the excess is subject to capital gains tax for a UK individual taxpayer; unless it can be reduced by capital losses brought forwards from a prior tax year.

Brought forward losses can only be used if they have been declared to HMRC previously on a Tax Return or by letter. The time limit for claiming capital losses is within 4 years of the end of the tax year in which the capital loss was realised.

The Recap tax report provides a summary of all the relevant information to be included on your annual Tax Return. The intention is that you pass our report to your accountant and they will be able to complete the Tax Return and advise on your tax position, based on your specific circumstances. A gain or loss is calculated for every disposal as detailed calculations are also included in the detailed tax report. You will have a full audit trail in case HMRC decide to investigate the capital gains entries on your Tax Return. Recap can also provide a record of the allowable costs of the cryptoassets still held.

What are my allowable costs?

When calculating the cost of acquisition for CGT on cryptoassets, individuals must follow HMRC’s guidance regarding “Pooling”. HMRC describes the concept of pooling as “Instead of tracking the gain or loss for each transaction individually, each type of cryptoasset is kept in a ‘pool’. The consideration (in pounds sterling) originally paid for the tokens goes into the pool to create the ‘pooled allowable cost’” [1].

To find the allowable cost (also known as the base cost) for the CGT computation, the first step is to identify which cryptoassets which have been sold. The ‘matching rules’ as set out below determine the order in which cryptoassets are deemed to have been sold. On the disposal of cryptoassets, they are first matched with acquisitions:

  1. made on the same day (same day rule), then
  2. made in the next 30 days on a first-in first-out basis (bed and breakfasting rule), then
  3. the rest of the acquisitions are aggregated in the S104 pool (pooling rule)

Once the deadlines for same day and next 30 days acquisitions have passed, these cryptoassets are also added to the S104 pool.

There is a S104 pool for each type of cryptoasset held. The pool is an aggregate of all the acquisitions which are not sold within the subsequent 30 days. Therefore, an average cost for the cryptoassets in the pool is maintained and a pro-rata cost is deducted from disposals using the matching rules.

Below is HMRC’s example, which helps to explain pooling and bed and breakfasting when dealing with cryptoassets:

Melanie holds 14,000 token B in a pool. She spent a total of £200,000 acquiring them, which is her pooled allowable cost. On 30 August 2018 Melanie sells 4,000 token B for £160,000. Then on 11 September 2018 Melanie buys 500 token B for £17,500. The 500 new tokens were bought within 30 days of the disposal, so they do not go into the pool. Instead, Melanie is treated as having sold:

  • the 500 tokens she has just bought
  • 3,500 of the tokens already in the pool

Melanie will need to work out her gain on the 500 token B as follows:

CalculationAmount
Consideration£160,000 * (500/4,000)£20,000
Less allowable costs£17,500
Gain£2,500

Melanie will also need to work out her gain on the 3,500 token B sold from the pool as follows:

CalculationAmount
Consideration£160,000 * (3,500/4,000)£140,000
Less allowable costs£200,000 * (3,500/14,000)£50,500
Gain£90,000

Melanie still holds a pool of 10,500 token B. The pool has allowable costs of £150,000 remaining.

Incidental costs of acquistion and disposal

In addition to the acquisition cost of the cryptoasset being an allowable cost to deduct in the capital gains calculation, there are also incidental costs of purchase and disposal that can be deducted.

HMRC states [1] that incidental allowable costs include:

  • transaction fees paid before the transaction is added to a blockchain
  • advertising for a purchaser or a vendor
  • professional costs to draw up a contract for the acquisition or disposal of the cryptoassets
  • costs of making a valuation or apportionment to be able to calculate gains or losses

As a result of the nature of cryptoassets and their distribution, there are several events which affect the tax treatment and the calculation of the capital gains. These include Forks and Airdrops.

How do forks affect my allowable costs?

There are two types of forks, a soft fork and a hard fork. A soft fork updates the protocol and is intended to be adopted by all. No new tokens, or blockchain, are expected to be created and there is no impact on the tax position. A hard fork is different and can result in new tokens coming into existence. If an individual held tokens of the cryptoasset on the original blockchain they will, usually, hold an equal number of tokens on both blockchains after the fork.

The value of the new cryptoassets is derived from the original cryptoassets already held by the individual. After the fork, the new cryptoassets need to go into their own pool. Any allowable costs for pooling of the original cryptoassets are split between the two pools for the:

  • original cryptoassets; and
  • new cryptoassets

Costs must be split on a just and reasonable basis. HMRC does not prescribe any particular apportionment method.

How do Airdrops affect my allowable costs?

The receipt of an Airdrop is not a taxable event for capital gains tax purposes (it can be for income tax, see below). If the disposal of a cryptoasset received via an airdrop is for more than the acquisition cost (market value when it was received), it will result in a chargeable gain for capital gains tax, regardless of whether it is treated as income or not upon its receipt.

Can I claim loss relief if the cryptoassets have lost their value, been lost or stolen?

If an asset has been stolen, lost or lost its value (a dead project for example), it is possible to claim loss relief from HMRC. This is done through submitting a negligible value claim to HMRC. The onus is on the individual to prove that the assets are no longer owned by you or have any value.

Income Tax and Cryptoassets

Financial trading in cryptoassets

Some individuals may be classed as cryptoasset “financial traders”, meaning their profits are subject to income tax and national insurance, rather than capital gains tax as an investor.

Consideration of whether or not a taxpayer is engaging in financial trading is a very complex area. It is not as simple as working through the ‘Badges of Trade’ [10] as these have been demonstrated to have limitations in the field of financial trading.

Mining – miscellaneous income or trading?

HMRC’s broad expectation is that the receipts of miners will most likely be within the scope of miscellaneous income. The trading receipts are the sterling equivalent (on the date of receipt) of the cryptoassets received. The allowable trading expenses (under the normal income tax rules for businesses) are deducted from the receipts to calculate a trading profit or loss.

If the mining activity does not amount to a trade, the sterling equivalent (at the date of receipt) of the tokens received from mining will be taxable as miscellaneous income subject to income tax [1].

Additionally, fees received for verifying new transactions should be included within this mining income [1]. Allowable expenses such as additional electricity used in the mining can be deducted from the income [5].

Here is an example from the ICAEW [5] concerning cryptoasset mining income:

Mr A is a Bitcoin miner. He mines by leaving his personal laptop running overnight, where it verifies transactions added to the blockchain. In return for his efforts, Mr A received cryptocurrency worth £2,000 in the tax year.

His electricity costs increased significantly; he considers that £200 of the additional expense relates to his mining activities, giving a net return of £1,800. Mr A had a profit motive, but his minimal activity means that the actions he took fall short of meeting the badges of trade.

His £1,800 profit is therefore charged to tax as miscellaneous income.

Mr A retains the Bitcoin he received in the hope it will increase in value in the future. CGT will apply to any future increase in value of the Bitcoin.

Employment income

If your employer pays you in cryptoassets, the sterling equivalent at the date of receipt is taxable employment income, subject to income tax and national insurance contributions. Depending on whether those tokens are a readily convertible asset (RCA) such as Bitcoin, or not, determines how employers must handle national insurance contributions and paying income tax on your behalf [1].

Any disposal after receiving cryptoassets as income is subject to the capital gains regime and there may be a taxable capital gain if there has been an increase in value of the cryptoassets [1].

When are Airdrops taxable income?

If airdrops are received in return for or in expectation of the individual performing a service or doing something in return (even just participating in a social media campaign) in order to qualify, the market value of the cryptoassets received should be recorded on the Tax Return as miscellaneous income, subject to income tax.

Staking

Staking is another area of cryptoassets for which it is unclear how the proceeds should be treated for tax purposes. HMRC has not released any guidance on staking or other rewards from different consensus mechanisms. We have sought written guidance from HMRC on this and are awaiting a reply.

CFD’s, Futures and Margin Trading

The tax position regarding individuals trading and investing in CFD’s (Contract for Difference), Futures and margin trading is very unclear as there is no HMRC guidance specific to cryptoassets. Assuming the individual is not treated as a financial trader, it is not clear if the gains or losses are to be taxed under the capital gains regime or be treated as miscellaneous income.

It is therefore unclear whether or not gains and losses should be treated as capital gains or miscellaneous income and the individual will need to make their own call on the matter in the absence of guidance from HMRC.

Keeping records of cryptoasset activity

One of the most important messages to come from the recent HMRC guidance is the importance of keeping records of all cryptoasset activity. HMRC’s guidance on record keeping states the following [1]:

Cryptoasset exchanges may only keep records of transactions for a short period, or the exchange may no longer be in existence when an individual completes a tax return. The onus is therefore on the individual to keep separate records for each cryptoasset transaction, and these must include:

  • the type of cryptoasset
  • date of the transaction
  • if they were bought or sold
  • number of units
  • value of the transaction in pounds sterling
  • cumulative total of the investment units held
  • bank statements and wallet addresses, if needed for an enquiry or review

It is important for individuals not to rely solely on exchanges to keep records of their data as there have been many instances of dead exchanges that old users cannot obtain their transaction history from. Therefore, exporting a copy of your data from the exchanges and wallets that you use on a regular basis is good practice.

We hope that you found this guide helpful – If you have any more questions, feel free to reach out to us on twitter @recap_io

Disclaimer: This guide is intended as an informative piece. This is not accounting or tax advice. Please speak to a qualified tax professional about your specific circumstances before acting upon any of the information in this guide.

References

  1. https://www.gov.uk/government/publications/tax-on-cryptoassets/cryptoassets-for-individuals
  2. https://www.gov.uk/guidance/check-if-you-need-to-pay-tax-when-you-sell-cryptoassets
  3. https://www.gov.uk/guidance/check-if-you-need-to-pay-tax-when-you-receive-cryptoassets
  4. https://www.bankingtech.com/2019/02/crypto-tax-and-hmrc-making-sense-of-new-uk-guidelines/
  5. https://www.icaew.com/technical/tax/tax-faculty/taxline/taxline-2019/january-2019/1-shining-a-light-on-cryptocurrency
  6. https://bettingbitcoin.io/cryptocurrency-uk-tax-treatments/#mining
  7. https://www.gov.uk/capital-gains-tax/rates
  8. https://www.gov.uk/government/publications/shares-and-capital-gains-tax-hs284-self-assessment-helpsheet/shares-and-capital-gains-tax-hs284-self-assessment-helpsheet
  9. https://www.taxinsider.co.uk/1920-Cryptocurrency_Tax_Implications_Trading_vs_Investment.html
  10. https://www.gov.uk/hmrc-internal-manuals/business-income-manual/bim20205
  11. https://blocktax.uk/guide
  12. https://www.gov.uk/government/publications/cryptoassets-taskforce
  13. https://www.gov.uk/capital-gains-tax/gifts
  14. https://www.gov.uk/hmrc-internal-manuals/business-income-manual
  15. https://www.gov.uk/hmrc-internal-manuals/business-income-manual/bim56800
  16. https://www.gov.uk/hmrc-internal-manuals/capital-gains-manual/cg56000p