With a market value of more than $2 trillion US dollars it is no wonder investors, share traders and even your friends are swarming to the digital gold rush that is crypto trading. However it is important to understand the implications that holding and trading cryptocurrencies such as Bitcoin and Ethereum may have on your annual tax return.
The term cryptocurrency is used to describe a digital asset that cannot be easily created through the use of encryption techniques and verification from multiple networks (called the block chain) to ensure the validity of the asset. As a result of these techniques, cryptocurrencies operate independently from the central bank and government.
There are three different ways the ATO will treat cryptocurrency depending on how and why you are holding it.
The first and most common is the treatment when held by an investor. For most people (investors) your cryptocurrency will be held on a capital account meaning you will not have to pay tax when you purchase a cryptocurrency or if there is a change in market value while you are holding it. However when you do decide to sell or dispose of your cryptocurrency you may have to pay capital gains tax (CGT). Even if you sell a currency and immediately buy another, this is still considered a sale for CGT purposes. An advantage of holding crypto on capital account is that if you hold it as an investment for more than 12 months you may be entitled to a 50% CGT discount (which means you’ll only pay tax on half of the gain).
The second (and less common) approach is when cryptocurrency is deemed to be trading stock. This is where the holder is classified as a share/crypto trader (someone who undertakes business activities for the purpose of earning income from buying and selling shares and/or crypto) and is held instead on revenue account. Proceeds from the sale of cryptocurrency instead are deemed ordinary income and the cost of acquiring cryptocurrency a deductible business expense. An advantage of holding cryptocurrency as a trader is that your losses from the sale of crypto can sometimes be offset as a deduction against your other sources of income whereas losses from the sale of crypto on capital account can only be used to offset other capital gains.
It is important to understand that you can’t choose between these two methods. You are taxed as either a trader or an investor based on the facts. To determine if you are a trader, the ATO looks at the following factors:
- What is the nature and purpose of your activities, is the intention to make a profit and is there a business plan in place?
- How repetitive, regular and voluminous are your activities? The higher the volume the more likely a business is being carried on. A business would be regularly and routinely trading cryptocurrency.
- Are your activities organised in a business-like way? This primarily relates to the record keeping of share/crypto transactions. Does the share/crypto trader produce annual reports and have qualifications, expertise or training in the market.
- How much capital is invested? The size of holdings compared to personal capital may be taken into account when determining if someone is a share trader or simply an investor. However this is not a critical factor as it is possible to carry on a business with very little capital.
The third way is when cryptocurrency is classified as a personal use asset, whereby capital gains or losses that arise from the disposal of these assets may be disregarded. Cryptocurrency is considered a personal asset only when it is kept and used primarily to purchase items for personal use only.
Other related blogs:
Buying Bitcoin will I pay tax?
Author: Rhys Frewin
Email: rhys@faj.com.au
