Decrypting cryptoassets – the UK personal tax implications

What are cryptoassets?

It’s important to first define what exactly is considered as a cryptoasset. HMRC defines them as “cryptographically secured digital representations of value or contractual rights”, which covers many of the main types of cryptoassets:

• Exchange tokens – by far the most common category and how many would define cryptoassets; this covers cryptocurrencies that are meant to be used for payment, such as Bitcoin.
• Utility tokens – tokens that provide the holder with access to goods or services.
• Security tokens – as the name suggests, these tokens act as a security in a business, similar to a shareholding.

Capital Gains Tax (CGT)

The most common transactions individuals undertake with cryptoassets are buying and selling a particular token as an investment. As with other investments, you pay CGT when you make a gain on a disposal. Similar to other assets, you can deduct associated costs of disposal and acquisition, such as the purchase price, transaction fees and valuations, when calculating your gains. Importantly, swapping from one cryptoasset to another is a disposal, even though no cash is received

HMRC’s latest guidance details the rules that it applies to the disposal of cryptoassets. Most importantly, a pool needs to be created for the base cost of the particular token when calculating the capital gain. There are various rules that apply to share and cryptoasset pooling and this is further complicated by exchanges and software associated with cryptoassets that are often not developed to assist with tax reporting, unlike share portfolios. Care should therefore be taken by individuals making a significant number of trades, as it will be their responsibility to correctly report any capital gains made to HMRC. 

Care should also be taken when reporting cryptoasset gains for non-domiciled individuals claiming the remittance basis of taxation. The question of where cryptoassets are located is one where HMRC and the tax profession generally do not agree and HMRC’s opinion on the matter raises a number of questions.

Capital losses

As well as reporting capital gains, you can also claim capital losses when your investment has been disposed of at a loss. This is particularly useful given the volatility of the crypto market, which can see investors commonly realise losses in a downturn. Significantly, these losses can be utilised against non-crypto related capital gains, either in the year of the loss or in future years.

However, care should be taken when you sell at a loss and then buy the same crypto asset back within 30 days. The CGT matching rules state that you deduct the value of any acquisitions made within the next 30 days when calculating the gain or loss of the asset sold. This means that you may not realise the loss of a crypto asset on sale if you buy it back within that time period.

Another area where mistakes can be made is if you have made a loss on a crypto asset in one wallet, but a gain on the same asset in another wallet. The CGT matching rules state that you pool all acquisitions of the same asset in all wallets you hold to calculate the gain or loss. It is therefore important when realising losses, that you obtain proper advice to ensure that you will genuinely trigger any loss to set against gains from other assets.

Negligible value claims

Should a coin become worthless with no chance of recovering value, a negligible value claim may be accepted by HMRC, which has the effect of disposing of the assets and reacquiring them at nil cost. This is an effective way of realising a capital loss, which can reduce CGT on other gains, as outlined above. Even when the claim is made, investors retain the asset, although HMRC generally take a hard line as to what constitutes negligible value and qualifying coins will in their nature have no realistic chance of increasing in value. It's also important to consider carefully the evidence that will be required to prove your case to HMRC.

In instances where a private key, which provides access to the wallet where the cryptoassets are stored, has been lost (for example, when a password is simply forgotten, stored on hardware which is lost, or becomes inaccessible) a negligible value claim can also be made. To successfully make this claim HMRC would need evidence that the key cannot be retrieved, rather than simply being misplaced. Where the key is misplaced, a negligible value claim may not be accepted by HMRC.

Income tax

There are also certain circumstances where income tax may be payable. The most common scenarios are when cryptoassets are received in relation to employment, the mining of tokens (where new cryptoassets are earnt by solving cryptographic equations), staking and where the buying and selling of tokens is considered a trade.

Similar to shares, for an individual to be deemed to be trading and subject to income tax on the gains arising from cryptoassets, HMRC advises that there would need to be exceptional circumstances in a particular case. For this, the badges of trade would be considered, which apply to any ‘trade’ being undertaken, for tax purposes. Some examples of factors to consider include, but are not limited to, the frequency of transactions, the source of funding and the sophistication of the operation.

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