The popularity of cryptocurrencies such as Bitcoin have provided the media and investors with much to talk about while regulators, such as the Canada Revenue Agency (CRA) have been shy on their views from a tax compliance perspective.
The purpose of this article is to bring to light the CRA’s limited views on cryptocurrencies at this time and some important items to consider from a tax perspective. This article will also touch on the mechanics of the cryptocurrency system, but should not be considered as a complete overview of the system as a whole. While a number of cryptocurrencies exist, the focus of this article will be from a Bitcoin perspective under the assumption that the tax considerations do not differ significantly from one cryptocurrency to the next. However advice from a tax professional should always be sought before making this determination.
Unlike cash, Bitcoin has no physical form. It’s a digital “currency”. The distinctiveness of the Bitcoin system stems from the elimination of the need for a third party such as a bank, broker, or other intermediary to administer payment. Additionally, there is no central authority controlling the supply of Bitcoin. The function of supply is administered by Bitcoin “users” and its back end software. Bitcoin units come into existence, or into possession, under three methods: (1) consideration received for the supply of goods or services, (2) purchased in exchange for traditional currencies (such as the Canadian dollar) or (3) through the concept of “mining”, which will be discussed later in this article.
The CRA has been very clear that Bitcoin is not a currency for Canadian tax purposes, but instead a commodity. Therefore, the income and sales tax considerations on “bartering” must be followed when transacting with Bitcoin. Bartering is practised when goods or services are exchanged directly for other goods and services without using money/currency. Professionals will argue that CRA’s interpretation of “money” and “currency” are not correct in the context of Bitcoin, however this is outside the scope of this article, and ultimately for the courts to decide. Therefore based on information currently available, the following points are important to consider when transacting with Bitcoin (i.e. bartering):
- Taxable supplies of goods or services (i.e. sale of goods or provision of services that attract GST/HST) in exchange for Bitcoin are subject to GST/HST. The value of the goods or services exchanged must be computed based on the fair market value (FMV) of Bitcoin at the time of sale.
- The opposite is also true for suppliers of Bitcoin. The supply of Bitcoin in the course of commercial activities could also be subject to GST/HST provided the small supplier threshold is reached (sales of over $30,000 annually).
- Bitcoin can be gifted to a qualified donee. The FMV of Bitcoin at the time of transfer is used to determine the eligible amount of the gift. To support the donation, an official donation receipt meeting CRA standards is necessary.
- Bitcoin can be traded or sold like any other commodity. The determination of whether the transaction is on account of income (such as selling regular inventory) or capital (items that create a capital gain or loss) is a function of the particular facts of the situation.
- Bitcoin miners may be taxed depending on whether their activities constitute a hobby or commercial activity (again, a function of the particular facts of the situation).
The concept of mining
As mentioned above, Bitcoin can come into possession through the concept of mining. In basic terms, Bitcoin mining is the process of applying computer power to run software that solves complex mathematical problems. Upon solving these problems, miners are rewarded with Bitcoin. Miners are also compensated for processing and verifying Bitcoin transactions which mitigate the risk of theft and fraud in the system. The concept of mining is based on the fact that the supply of Bitcoin is limited. As the supply increases, the more difficult it is to mine (i.e. solve mathematical problems). Whether the concept of mining is regarded as a hobby or commercial activity is a question of fact and should be discussed with professionals. If mining is considered a commercial activity, then the normal rules surrounding inventory valuation and the concept of profit and loss will apply from an income and sales tax perspective. If mining is considered a hobby, than the activity can be considered non-taxable.
A note on specified foreign property
Specified foreign property includes certain tangible or intangible property held outside Canada (subject to certain exceptions) that is not held or used exclusively in carrying on a business. The CRA has stated that Bitcoin could be specified foreign property if situated, deposited or held outside Canada and not used in the course of carrying on a business. Those with a cost base of $100,000 or more of specified foreign property are required to report the details on form T1135 on an annual basis to avoid fines and penalties.
The above is a primer on some income and sales tax considerations surrounding Bitcoin. If you are transacting with Bitcoin please do not hesitate to contact us for any questions or concerns you may have.