Canadian Income Tax – Tax Treatment of Bitcoins – Canadian Tax Lawyer Analysis
Bitcoins and other cryptocurrencies such as Litecoin, Dogecoin and Mazacoin are attracting more attention from the media and from Canadian taxpayers. Due to their nature Bitcoins are in use throughout various jurisdictions, however, not all countries treat Bitcoins in the same way when it comes to income taxation. If you have concerns about how you should be reporting income you have earned in Bitcoins, or how to report profits on the sale of Bitcoins, you should seek the advice of one of our experienced Canadian Tax Lawyers to avoid future problems with the Canada Revenue Agency (“CRA”).
What is a Bitcoin?
Bitcoins are a type of virtual currency known as “cryptocurrency” and originally created by an anonymous computer programmer in 2009. Because Bitcoins are designed to allow for anonymous exchanges, they have become a cause for concern for income tax and other authorities the world over due to the potential for money laundering and other illegal activities.
Since the creation of the Bitcoin currency its value has fluctuated dramatically. So far there have been two recorded crashes in the value of Bitcoins, in 2011 & 2013, and during the latter crash, Bitcoins lost over 50% of their value in a single day.
There are 3 ways in which a person can acquire Bitcoins:
- Through the use of computers to create the Bitcoin in an online process called “mining”;
- Mining is a practice whereby a user sets up a personal computer to run processes and solve algorithms that “discover” new coins based on the architecture of the currency when it is created. For all cryptocurrencies there is a fixed upper number of coins, so once all are discovered the coins have been “mined out” and no further units will be available to miners. However the coins still exist and can be used for purchases and trade as usual.
- By purchasing them online through a Bitcoin exchange for traditional currency; or
- As consideration in exchange for services.
Given the uncertainty surrounding the taxation of bitcoins in Canada, the tax consequences may be different depending on how they were acquired.
How Are Bitcoins Taxed in Canada?
The CRA has not yet addressed the issue of Bitcoin taxation in any of its Information Circulars or Interpretation Bulletins. However the CRA has issued Income Tax Rulings and Technical Interpretation to address the tax treatment of transactions involving Bitcoins.
In a response to recent medical enquiry about the tax treatment of Bitcoins, the Income Tax Rulings Directorate issue comments on good and services exchanges involving Bitcoins. In a March 2014 Technical Interpretation, the CRA provided some guidance and outlined its position regarding the income arising from Bitcoins activities. The CRA’s position is that when a taxpayer pays for a product with Bitcoins, the CRA will deem that transaction to be a barter transaction. When a taxpayer disposes of Bitcoins, they will be subject to taxation as either an income from a business source or as capital gains from disposition of property. Whether the gain is on income or capital account will depend on whether the taxpayer’s activities involving Bitcoins have sufficient commercial nature, as per the test in Stewart v the Queen, 2002 SCC 46.
Bitcoins as Barter Transactions
To get a better idea how the barter transaction would be taxed with a Bitcoin used as currency, one needs to have a basic understanding of how a more traditional barter transaction works. In a barter scenario, when a taxpayer pays for goods or services using Bitcoins, they will need to include the fair market value of the goods that they receive into their income when they file their tax return. This is to ensure that the full value of the goods or services received are accounted for in the taxpayer’s income.
As an example, say a Taxpayer who owns a retail store purchases a product with a fair market value of $20. The store owner pays for the product with say one Bitcoin having a value of $20. Because Bitcoins are not official currency, in order to ensure that the entire value sold to the consumer purchaser through the transaction is accounted for when determining the store taxpayer’s income for the year, the value of the product, $20, not the value of the Bitcoin when the goods are sold, is used for tax purposes.
Bitcoins as Income or Capital
Taxpayers who speculate in Bitcoins by buying and selling them using conventional currency will find that the income tax treatment is different than in a barter transaction scenario. Should a taxpayer choose to purchase and sell Bitcoins with an eye to making a profit, different rules apply.
Essentially, Bitcoins can be thought of the same way as any other piece of property, when they are disposed of for a price higher than what was paid, a capital gain will arise, and one half of the gain will be included in the taxpayer’s income.
This type of transaction done many times over the taxation year could lead to further complications. For example, if a taxpayer repeatedly purchases and sells Bitcoins for a profit, the CRA may choose to assess the taxpayer as being in the business of speculating on Bitcoins, and include all profits in the taxpayer’s income as business income instead of a capital gain.
Does holding Bitcoins attract reporting obligations?
In addition, in a Technical Interpretation issued in April 2015, the CRA noted that Bitcoins situated and held outside of Canada that are not used exclusively in the course of carrying on an active business would be ‘specified foreign property’. This means that the value of the Bitcoins have to be reported in a T1135 Statement to CRA every year by a Canadian resident for tax purposes if the total cost of all ‘specified foreign property’ (including Bitcoins) are more than $100,000. For example, if a resident taxpayer already has T1135 filing obligations, he/she would need to disclose any Bitcoins owned in their annual T1135 filings. Another example would be if an individual acquired Bitcoins that valued in excess of $100,000 in total, he/she must start disclosing the value of Bitcoins in a T1135 form.
In addition, an interest in a foreign partnership would be ‘specified foreign property’ if non-resident members’ shares of income or loss of the property are more than 90% of the total income/loss of the partnership. If a ‘specified foreign partnership’ holds Bitcoins situated and held outside of Canada that are not used exclusively in the course of carrying on an active business, and if a Canadian resident for tax purposes has an interest in the ‘specified foreign partnership’, then the resident must report the value in a T1135 Statement.
Canadian Taxation of Bitcoins Still Unclear
While it may seen that these rules about the tax treatment of Bitcoins are relatively simple there is actually still a great deal of uncertainty.
For example, how do foreign currency transactions apply with respect to Bitcoins? When a taxpayer is engaged in the mining of Bitcoins, should they be taxed when the Bitcoins are created, or should they be able to defer that income until they have exchanged them for a recognized form of currency?
Prudent advice from our professional Toronto income tax lawyers is necessary to ensure that you do not fail in your reporting obligations.
Canadian Tax Lawyer Assistance
If you are concerned about the tax consequences of the selling or mining of Bitcoins, get in touch with our Ontario Tax Lawyers. If you have holdings of Bitcoins situated in Canada, and if you have not reported these assets, then it is likely that you need to disclose these foreign assets holdings to the CRA. You may need to do a voluntary disclosure to the CRA for your Bitcoin holdings. Effective planning is necessary to ensure that you pay only the taxes that you owe. Given the current uncertainty with respect to the tax treatment of Bitcoins, expert legal income tax advice is a necessity.
Are you concerned about tax consequences of selling or mining Bitcoins? Click here to learn how Bitcoins are taxed in Canada.
"This article provides information of a general nature only. It is only current at the posting date. It is not updated and it may no longer be current. It does not provide legal advice nor can it or should it be relied upon. All tax situations are specific to their facts and will differ from the situations in the articles. If you have specific legal questions you should consult a lawyer."