Taxation and cryptocurrencies: What are your tax obligations?

The growing popularity of cryptocurrencies and cryptographic assets has resulted in massive capital flows in recent years. In fact, in January of this year, the worldwide capitalization of the cryptocurrency market exceeded US$1 trillion for the first time, having totalled only US$200 million just a year before. And as of this writing, the worldwide capitalization of the cryptocurrency market stands at approximately US$2 trillion. 

Tax authorities are well aware of this “cryptocurrency rush” and know that numerous taxpayers who have invested in this market in recent years have made a profit. In fact, the Canada Revenue Agency (CRA) has put together a specialized team to ensure that taxpayers who have invested in this sector comply with tax law. 

Thus, it is important for taxpayers to understand the tax consequences of their cryptocurrency transactions and to ensure that they comply with applicable tax obligations. Failure to do so can result in heavy penalties, and even penal or criminal charges in some circumstances.

Form T1135

First of all, any taxpayer who, at any time during the year, held specified foreign property with a cost amount exceeding $100,000, must check box 266 of their federal income tax return and file Form T1135 with their return. Accordingly, if a taxpayer holds cryptocurrencies with a total cost of more than $100,000, and these cryptocurrencies are located, deposited or held outside Canada, that taxpayer must disclose this fact to the CRA by filing Form T1135. There is a minimum penalty of $2,500 for each year in which the taxpayer fails to file this form when under the obligation to do so and that additional penalties of up to 5% of the cost of the specified foreign property may be imposed.

Capital gains or business income

Any proceeds from the sale or trade of cryptocurrencies must be reported as capital gains or business income, depending on the circumstances. To determine how the proceeds must be treated for tax purposes, it is important to analyze several factors, including the frequency of transactions, the amount of time the cryptocurrencies were held, the circumstances surrounding the transactions, and the taxpayer’s intent at the time the transactions were executed.

It should also be borne in mind that the use of a cryptocurrency to pay for goods or services or to acquire another cryptocurrency is considered a barter transaction resulting in a disposition. 

As such, the value of the cryptocurrency at the time of the payment or exchange must be recorded in Canadian dollars so that the gain or loss triggered by the transaction can be computed. If the taxpayer has failed to document this information, the data supplied by the largest trading platforms should enable the taxpayer to trace it and complete their accounting.

The applicability of GST/HST

On May 17, 2019, the Minister of Finance released legislative proposals concerning GST/HST, notably as it relates to cryptocurrencies. It is proposed to amend the definition of “financial instrument” in the Excise Tax Act to include a “virtual payment instrument,” meaning that, if the proposals are enacted into law, cryptocurrency providers will no longer be required to bill and collect GST/HST on the supply of virtual currencies.

However, certain cryptocurrencies have been specifically excluded from the definition of “virtual payment instrument,” including ones that are “primarily for use within gaming platforms, affinity/rewards programs and other similar platforms or programs” or that confer “a right of any kind to be exchanged or redeemed for money or specific property or services or to be converted into money or specific property or services.” 

If these legislative proposals are adopted, they would settle the question of whether GST/HST applies in situations where cryptocurrencies are bartered or sold. 

However, the legislative proposals of May 17, 2019, make no reference to so-called cryptocurrency “mining” transactions, which means that there is still some uncertainty surrounding the applicability of GST/HST to such activities.

Duty to keep books and records

The law requires all taxpayers to hold accounting books and records (including an annual inventory) in such form and containing such information as will enable the taxpayers to compute the tax they owe. 

In its Guide for cryptocurrency users and tax professionals, the CRA recommends that taxpayers periodically export the information from the exchange platforms on which they trade cryptocurrencies, and that they maintain the following records:

  • the date of the transactions;
  • the receipts of purchase or transfer of cryptocurrency;
  • the value of the cryptocurrency in Canadian dollars at the time of the transaction;
  • the digital wallet records and cryptocurrency addresses;
  • a description of the transaction and the other party (even if it is just their cryptocurrency address);
  • the exchange records;
  • accounting and legal costs; and
  • the software costs related to managing tax affairs.

For any questions regarding the tax treatment of your transactions, or to correct your tax situation for previous years, please contact our tax law team.

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