With the increase in popularity of bitcoin and other cryptocurrencies over recent years, the question about how we should be handling our taxes pops up more frequently. The legal standing of bitcoins and cryptocurrencies are always changing since it is such a new asset; HMRC and governing bodies aren’t quite sure about how to define them. For the time being we can explain how you are expected to handle your taxes.
DISCLAIMER- Taxes on bitcoin and cryptocurrencies are unique to most individuals and should therefore contact a tax professional and not take advice literally from this article.
Bitcoin and taxes
- How is bitcoin defined by the government?
- How are tax returns calculated?
- The possession of cryptocurrencies
- The selling of cryptocurrencies for FIAT or goods
- The trading of cryptocurrencies
- The mining of cryptocurrencies
How is bitcoin defined by the government?
Bitcoin is considered as an entirely legal but foreign currency within the United Kingdom. The stance of legality and definition is always subject to change and therefore it is wise to familiarise yourself with changes when the time comes to file your tax returns. Bitcoin has only existed since 2009 and until recently hadn’t picked up much media attention. It is still a widely misunderstood “asset/currency/tool”, as time goes on we expect the understanding and definition of bitcoin/cryptocurrencies to be more concrete.
How are tax returns calculated?
The way taxes are calculated vary dependant on many factors- primarily the way with which the coins have been used and traded with other assets/currencies/goods. There are multiple considerations and categories for calculating these taxes:
- Possession of cryptocurrencies
- Selling cryptocurrencies for FIAT or goods
- Trading cryptocurrencies
- Mining cryptocurrencies
The possession of cryptocurrencies
The possession of cryptocurrencies alone is not taxable. If you were to purchase bitcoin in 2011 and continued to be in possession of them, you would not be liable to any taxes, regardless of any gains or losses. HODL!
Selling cryptocurrencies for FIAT or goods
This is the bracket that the majority of people fall into. When you sell cryptocurrency in your possession for a FIAT currency or in exchange for something of tangible value then you are subject to Capital Gains Tax (CGT). The tax rate varies depending on your current standing as a taxpayer. Basic rate taxpayers must pay 10% on said gains, whereas higher rate taxpayers are at 20%*. For all individuals there is a tax exemption limit of £11,700 as of the 2018/2019 tax year.
Example: You purchased 2 bitcoin for £200 in 2013 and today you wish to sell them. If those two bitcoin are sold today at £20,000 then you have made a profit of £19,800. The annual tax exemption for an individual is £11,700 and therefore that must be deducted from our amount. This brings us to £8,100. If you fall into the basic rate as a taxpayer then you would be expecting to foor up a CGT bill of £810.
In the case of making multiple purchases and sells, an average will need to be calculated in order to work out what taxes are due. Please refer to this link for more information.
*For more information on tax rate bands, we recommend visiting www.gov.uk for more information. The bottom line is that if your taxable income exceeds £34,500, amounts over this threshold will be subject to 20% CGT.
Mining cryptocurrencies is an entirely different kettle of fish. The tax you pay will be completely dependant on what your entity is. If you are mining bitcoin as a hobby then the CGT rules are still going to apply. If your setup is of a large scale then doing this as a hobby will become quite expensive since you can’t claim any taxes back on expenses.
A good start would be to set yourself up as a sole trader at the very least. From here you can calculate your income and consequently pay your income taxes and national insurance. If you have gotten yourself to the stage where you are making substantial gains on mining then it would be wise to set yourself up as company and become VAT registered. Taxable income as a sole trader becomes quite substantial when you start earning a lot of money.
If you are VAT registered there are a couple of advantages. One is that you must now pay corporation tax on profits instead. Corporation tax is currently 19%. The second advantage is that you can claim back the VAT paid on electricity bill. As you might already be aware, electricity is quite a hefty chunk of your expenses.
The majority of people are likely to fall into the CGT bracket when buying and selling crypto and those who just “hodl” are exempt from paying any tax at all. Calculating CGT is very straightforward and shouldn’t require a tax professional, however if you go beyond the purchase and selling of crypto in a casual manner then you might need to dig deeper and consider hiring a tax professional.