We live in a digital age — information is transferred and transactions are completed at a speed that past generations never thought possible. We have seen some amazing innovations in the last decade. One is the creation of digital currency, or cryptocurrency, the best-known of which is Bitcoin. While it sometimes seems that tax authorities play catch-up to technology’s latest advances, not much escapes the scrutiny of the Canada Revenue Agency (CRA).
Cryptocurrencies have moved into the mainstream. More and more, we hear of people who not only transact with and trade cryptocurrency, but who also “mine” it. Mining cryptocurrency involves solving increasingly complex mathematical problems that are meant to protect cryptocurrency transactions from becoming vulnerable to hackers. In exchange for solving these equations, the miner is rewarded with cryptocurrency coins or tokens. The increased frequency of cryptocurrency transactions, along with the recent volatility in the value of cryptocurrencies, has left many people who have traded, earned or transacted using cryptocurrency wondering whether income tax reporting obligations apply.
The CRA has provided general, and rather limited, guidance about the taxation of transactions carried out using cryptocurrency. While the CRA acknowledges that cryptocurrencies can be used to buy and sell goods or services over the Internet, cryptocurrencies are not recognized as legal tender in Canada. As a result, the rules governing barter transactions will apply where cryptocurrency is used to purchase or sell goods or services. In addition, the CRA maintains that cryptocurrencies should be treated like a commodity when bought or sold in return for traditional currency, or transferred from one person to another.
It appears unlikely that the CRA will make significant changes in the near future to its position on cryptocurrency. This is largely because the federal government believes the existing tax rules are sufficient to address the tax implications of transactions involving cryptocurrency. In January 2018, Finance Minister Morneau commented that there are no plans to make changes to existing tax legislation to include specific rules dealing with cryptocurrency.
Using cryptocurrency to buy or sell goods or services
It is the CRA’s position that where cryptocurrency is used to pay for goods or services from a vendor or service provider carrying on a business, that vendor or service provider is considered to have provided a taxable good or service. However, unlike a similar transaction carried out using traditional currency, a transaction using cryptocurrency is subject to the barter rules for income tax purposes. As such, it will be necessary to put a Canadian dollar value on the business transaction for tax purposes. Once a value has been established, the vendor or service provider will then be considered to have received that dollar value for the sale of the good or the service rendered.
Consider the example of a car mechanic who accepts payment in cryptocurrency for a routine maintenance check. For tax purposes, the mechanic is considered to have received a payment equal to the value of the vehicle maintenance service provided. This value will generally be the same amount as would have been charged to a customer paying for the same service in Canadian dollars. It follows that this value will be included in the mechanic’s income for tax purposes.
The same principle applies where goods, rather than services, are exchanged for cryptocurrency. The Canadian dollar value of those goods will similarly be brought into the taxpayer’s income where the transaction is business related. For example, if a consumer electronics store accepts cryptocurrency in exchange for a computer, the retail value of that computer in Canadian dollars will be included in the store’s income for tax purposes.
Similarly, where a taxpayer uses cryptocurrency to purchase services or goods for their business, the CRA seems to hold that the value of the services or the goods purchased in Canadian dollars would become the amount the taxpayer must use to record their costs or expenses for tax purposes. This is due to the fact that, where the goods given up (i.e., cryptocurrency) cannot readily be valued but the goods or services received can, the CRA’s position has been that, in a barter transaction, it will normally accept the value of the latter as being the price at which the transaction took place if the parties were dealing at arm's length.
In the early days of cryptocurrency, determining the value of the cryptocurrency being exchanged for goods or services at a point in time would have likely been difficult. In such a case, the value of the good or service being exchanged would have been used to assign a price to the transaction for tax purposes. However, with the technology currently available, it is now much easier to quickly and accurately determine the Canadian dollar equivalent of most cryptocurrencies. As such, it may generally become more practical for the taxpayer using cryptocurrency to purchase goods or services to value the transaction based on the fair market value of the cryptocurrency given as consideration.
Cryptocurrency can also be bought or sold. In this regard, the CRA has specifically stated that cryptocurrency is to be treated as a commodity for income tax purposes and any resulting gains or losses arising from the trading of cryptocurrency will be taxable in the same manner as any other commodity.
Whether such gains or losses are taxable as income or capital will depend on the facts surrounding the transactions. Similar to transactions involving other types of commodities, the tax consequences of realizing any resulting gains or losses would be determined by considering a variety of factors, including the intention of the taxpayer, as well as both the nature of and the frequency of the transactions. Other factors to consider could also include the following:
- the period of ownership
- the taxpayer’s expertise and knowledge of cryptocurrencies
- the relationship, if any, between the cryptocurrency transactions and the taxpayer’s ordinary business
- the time spent engaged in cryptocurrency activities
- the type of financing that is required to support the taxpayer’s cryptocurrency activities
- whether the taxpayer has advertised or otherwise made it known that they are engaged in this activity.
In most cases, the courts and the CRA have relied on a combination of these factors when determining whether a taxpayer’s activities are on account of income. For instance, a taxpayer who actively and regularly speculates in cryptocurrency, such as a day trader, will be more likely to be taxed on income account, whereas a taxpayer who buys cryptocurrency infrequently with the intention of holding it as an investment will be more apt to have such transactions taxed as capital in nature.
There may be some uncertainty, however, as to whether transactions arising from the mining of cryptocurrency are on account of income or capital. Consider that cryptocurrency mining can be a complex undertaking that generally involves the use of highly specialized and powerful computer equipment that consumes an almost astronomical amount of electricity. In this case, where a taxpayer mines cryptocurrency in a commercial and business-like manner, the value of the cryptocurrency coins mined would be included in the miner’s income for tax purposes. However, the upshot of this position would be that any outlays to purchase computing equipment or expenses incurred for electricity could likely be claimed to reduce the net amount of mining income included in taxable income. Conversely, it may be possible that in some circumstances the mining of cryptocurrency could be treated as a hobby or a personal endeavour (and not subject to income tax).
Finally, the CRA takes the position that the foreign reporting requirements extend to cryptocurrencies that are situated, deposited or held outside of Canada. This means that Canadian taxpayers who hold cryptocurrency outside of Canada with a cost that exceeds CDN$100,000 at any time during the year, either directly or indirectly through funds, that is not used or held exclusively in the course of carrying an active business, will have an obligation to file Form T1135 to report the property.
What are the tax implications of cryptocurrency for businesses?
In order to ensure compliance and proper recording of transactions for tax purposes, taxpayers who accept cryptocurrency for goods or services, or who pay for goods and services in cryptocurrency, should ensure that they have established a system for recording such transactions within the books and records of their business.
The CRA also notes that where an employee receives cryptocurrency as payment for salary or wages, the equivalent amount computed in Canadian dollars will be included in the employee’s income as regular employment income. Keep in mind that the employer will be required to remit source deductions on this income.
With our increased reliance on transacting within an online environment, it is not unreasonable to believe that you, or your business, may encounter transactions carried out in cryptocurrency. While some uncertainty does exist, there is no doubt that the CRA considers transactions involving cryptocurrency to be taxable events for Canadian income tax purposes.
Contact your BDO advisor if you have questions about how your cryptocurrency transactions may be taxed.
Learn more about BDO’s International Tax Services.
The information in this publication is current as of February 26, 2018.
This publication has been carefully prepared, but it has been written in general terms and should be seen as broad guidance only. The publication cannot be relied upon to cover specific situations and you should not act, or refrain from acting, upon the information contained therein without obtaining specific professional advice. Please contact BDO Canada LLP to discuss these matters in the context of your particular circumstances. BDO Canada LLP, its partners, employees and agents do not accept or assume any liability or duty of care for any loss arising from any action taken or not taken by anyone in reliance on the information in this publication or for any decision based on it.