Governmental guidance on how to treat cryptocurrencies such as Bitcoin, Litecoin, and Dogecoin have been sparse and often leave more questions than answers. Examining a combination of Notice 2014-21 and FinCEN’s multiple updates relating to money services businesses (MSBs) has made the landscape clearer, but there is still a need for additional guidance on how cryptocurrencies relate to various government agencies. Cryptocurrencies are global systems making it important to understand how foreign governments are treating them for tax, and other purposes.
The Canada Revenue Agency (CRA), roughly the equivalent of the IRS, issued document number 2014-0525191E5 which discusses how cryptocurrencies will be treated under the country’s Income Tax Act. The CRA guidance is less clear than Notice 2014-2, but it takes the same general approach. According to the CRA, mining activities can classified as a hobby or commercial activity. If the mining activity is classified as a commercial activity deductions generally will be allowed for businesses expenses; whereas, business expenses are not granted for a hobby. Cryptocurrencies mined in a commercial activity must be valued in inventory at the end of the year at either the lower of: (1) the cost at which the cryptocurrency was acquired; or (2) the fair market value as of the end of the year.
One of the major concerns before Notice 2014-21 is whether cryptocurrencies are taxable as soon as they are mined, or only upon a transfer or exchange. Canadian guidance did not specifically mention how mined cryptocurrencies would be treated, but it did discuss how virtual currencies acquired as gifts would be taxed. The guidance noted that Interpretation Bulletin IT-334R2 treats amounts received as a gift (“a gift is a voluntary transfer of personal property without any consideration or expectation”) is not subject to income tax in the hand of the recipient. This is in contrast to voluntary payments or other valuable transfers from an employer, or in connection with employment, which generally must be included in income pursuant to subsection 5(1) or paragraph 6(1) of the Income Tax Act. These approaches illustrate opposite viewpoints on how mined cryptocurrencies should be taxed.
The problem lies in how to classify the act of mining cryptocurrencies; is it more like an employment agreement whereby users are acting as independent contractors to secure the network, is it more closely analogous to mining other natural elements, or is it a gratuitous transfer? Each of these scenarios pose logistical problems because mining a cryptocurrency is not exactly analogous to any one taxable activity. These regimes are generally divided on whether mined cryptocurrencies will taxed as soon as they are received, or when they are sold, transferred, or exchanged in a realization event. The message to take from the Canadian guidance is that, despite how mining activity will be taxed under Notice 2014-21, tax authorities still have not decided on how to treat cyptocurrency mining.
The Spanish tax authority, Agencia Estatal de Adminstracion Tributaria (AEAT) issued a release indicating it would be “watching” the flow of cryptocurrencies to make sure they are not used to launder money. Article 34.2 of Law 10/20, of April 28, prevents money laundering and terrorist financing by any physical means, including electronic, designed to be used as a payment. This link to money laundering may leave the door open for cryptocurrencies being classified as currency rather than property. Such an approach would not be farfetched as cryptocurrencies, like Bitcoin, are traded, exchanged, and used to purchase goods similar to currencies, like the U.S. dollar, already.
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