Crypto inquiry – calls made for separate tax regime for crypto-assets

The committee launched its inquiry in the summer of 2022, saying it would “examine the potential risks and opportunities associated with the use of crypto-assets, their impact on social inclusivity and the possible need for regulatory change in the future.” While tax is not central to the inquiry the call for evidence did pose the question: “How might the Government’s processes – for instance the tax system - adapt should crypto-assets be adopted more widely?”

The committee has held three oral evidence sessions so far, but tax has not been raised as an issue at any of them.

However a number of written submissions do call for reform of how the sector is taxed, broadly arguing that the way crypto-assets are traded makes it complex and challenging to comply with tax law. Both CIOT and the main industry body, Crypto UK, have argued that lending and staking of cryptoassets should be removed from the ambit of capital gains tax (CGT) until the assets are sold or exchanged and their value realised.

Views from the crypto sector

Crypto UK, the industry body for the crypto sector, suggest that the UK could learn from the tax approach taken in other EU jurisdictions. “For example, some jurisdictions such as Germany and Luxembourg do not impose CGT on crypto-assets held for less than specified minimum time periods. The UK, on the other hand, taxes crypto-assets similarly to other assets. It should be considered whether CGT could be used to act as an incentive to accelerate the UK as a fintech hub and ensure we retain competitive advantage over other jurisdictions.”

They suggest that the UK should establish a tax regime which aligns with the actual realisation of income principles: “Ideally, conversions of crypto into other crypto (without first converting to fiat) should not generate a tax liability to the holder but rather be afforded a deferral under a like-kind property exchange tax deferral regime. The holder should be able to carry over their tax basis in the first crypto-asset to the second crypto-asset.”

Finally, say Crypto UK, rewards from ‘staking’ or ‘DeFi’ transactions should be treated as acquiring new property from the efforts/assets of the user and should not result in immediate realisation of income until disposition in the future. “This will allow a user who receives DeFi or staking rewards to hold their currency without having to immediately sell a portion of it off in order to generate income to pay the fiat tax liability. This will aid the industry, especially proof-of-stake currencies which tend to be more economically friendly and allow users to continue participating in the ecosystem.”

The Digital Currencies Governance Group is a trade body representing digital assets issuers and service providers. In their submission they emphasise the need for the government to take account of the specific character of the cryptoasset industry and its many diverse business models, before attempting to regulate them. Referring to HMRC’s recent consultation on the DeFi staking and lending of cryptoassets, they say that the third of the options set out - applying a ‘no gain no loss’ treatment to lending and staking transactions – is preferable, “because players and users in the industry are significantly less equipped than traditional finance players to face the complications of a tax system that, precisely because of the nascent character of the industry, is plagued by uncertainty”.

Views from finance

In their submission, Innovate Finance, the independent industry body that represents and advances the global FinTech community in the UK, warn of “a risk of a mismatch between how the regulators approach different types of crypto-asset and how the tax authorities view them”. They say that HMRC's approach towards treating crypto-assets as similar to shares or securities will need to evolve as a wide variety of products and new types of assets come to the market. “This needs to align with the prudential and conduct regulatory approach to those products and assets.”

UK Finance, which represents banks and building societies, says it “has not worked extensively on the tax system or implications regarding cryptoassets, but we will work closely with the government in future as they begin to look in more detail at the tax system and the implementation of international rules such as those from the OECD. As a broad point we note that the system does need to be inclusive of cryptoassets.

The Payments Association take the view that taxes on crypto have to be thought through on the basis of a deep understanding of how crypto work. “The creation of smart new taxes that fit the peculiarities of the new asset classes is the way forward to help the industry grow and remain attractive in a global environment where competition in tax systems could push crypto money to leave the UK in favour of countries such as Portugal that have already created a more favourable tax environment for crypto,” they observe.

Views from tax and accountancy

The CIOT’s Low Incomes Tax Reform Group warn that understanding about potential tax liabilities arising from cryptoasset activities among cryptoasset owners is low, while the potential complexity in calculating these liabilities is high. “This combination means that there is high chance of inadvertent tax non-compliance amongst unrepresented (or even represented) taxpayers,” says LITRG. They call for HMRC to do more to raise awareness of cryptoasset tax liabilities, once the government has decided what they will be.

LITRG take the view that the current tax-free allowances (especially the CGT annual exempt amount and trading allowance) are useful – but they do not protect everyone, because they may already be used against other gains or income.

Looking particularly at the implications for those on low incomes, LITRG note that cryptoasset activity can lead to particular complexities for means-tested benefits, especially universal credit. This stems from the facts that cryptoasset holdings will usually need to be valued each assessment period, and there is no equivalent to the trading and miscellaneous income allowance in universal credit.

Legislative reform should be explored to understand whether changes could make it easier for taxpayers and claimants of means-tested benefits to be compliant, say LITRG. They suggest that treating cryptoassets as an entirely new asset class with its own rules “seems to have some advantages. The existing position – where taxpayers need to undertake a detailed analysis to determine whether there is a disposal of beneficial ownership when lending or staking cryptoassets – is not workable.”

In a very brief submission, the wider CIOT endorses the LITRG submission. In its submission to HMRC’s consultation, CIOT had argued that simply seeking to treat cryptoassets analogously with traditional assets such as shares/securities was unlikely to work. Keeping track of transactions as the pooling rules require is almost impossible, said CIOT, and De-Fi lending and staking require a significant amount of analysis of often numerous transactions.

CIOT argued that the government “needs to start with a blank piece of paper and draft new legislation and guidance specifically tailored to address cryptoassets and their unique nature i.e. the flexibility in which they can be used, the potential number of transactions involved, their propensity to occur without commercial realisation, and the volatility of asset values.” Lending and staking of cryptoassets should be removed from the ambit of CGT altogether, CIOT said, including the reporting requirements, until the assets are sold/exchanged and their value is realised.

The only other professional body in the sector to make a submission is the Association of Accounting Technicians (AAT). AAT noted in the summer of 2022 that members who rarely, if ever, received cryptocurrency enquiries from their clients, were now doing so at a rate of two or three a week. Queries were varied but mostly related to tax treatment e.g. around Capital Gains Tax implications. They note that accounting packages are built around currencies, most do not have the capabilities to incorporate digital asset transactions and there are no accounting standards relating to digital assets (they can be considered as either an intangible asset, stock, or a financial asset, depending on how they are being utilised, which means the accountant must have an understanding of the underlying asset).

AAT note that while the ‘crypto tax gap’ tripled over the 12 months to March 2021 (according to an HMRC report), it remains very small with just £428,000 of tax under consideration on cryptocurrency investments. “Whilst it is impossible to say with any certainty, AAT believes this is likely to be the tip of an iceberg and should prompt HMRC to devote considerably greater resources to this area – resources that government must ensure HMRC has.”

Civil society

Positive Money is a not-for-profit research and campaigning organisation, which describes itself as “working towards reform of the money and banking system to support a fair, democratic and sustainable economy”. They argue that payment of taxes in cryptoassets should only be accepted “if, like bank deposits, the transaction is ultimately settled with state issued money (i.e central bank liabilities, such as reserves or cash). The settlement of taxes in monetary instruments not issued by the state could otherwise have severe consequences for monetary stability.”

They suggest that, to tax financial flows moving through crypto-assets, the assets must circulate within the regulatory perimeter, and be subject to the same audits, checks and safety mechanisms that bank deposits and other systemic forms of money. “There is no prospect of crypto-assets meeting these requirements without essentially replicating the key features of bank deposits or e-money, such as being backed by high quality liquid assets.” 

Positive Money also warn that the anonymous and ‘decentralised’ aspects of crypto-assets can make tax collection more challenging. However, they say, “it is still possible for successful tax enforcement through crypto exchanges. As such, it is important for exchanges to undertake Know Your Customer and Anti-Money Laundering checks, and for HMRC to work with exchanges to enforce tax collection (such as for capital gains tax).”

Further information on the inquiry, including links to submissions and oral evidence sessions, can be read here.