During the recent tax season, we saw a significant rise in the number of clients seeking advice on the implications of their crypto-currency assets.
Despite its name and related coin references, cryptocurrency is not a form of legal tender. Nevertheless, proponents believe it will advance the ability to transact globally through superior security and speed. These benefits may explain some of cryptocurrency’s rise as a speculative investment.
One can imagine buying 100 Bitcoins in 2012 at $10, then selling them all in 2018 at $6,300 each. A gain of $629,000 would be enough to feel like hitting a small jackpot. Unlike lottery winnings, however, cryptocurrency gains are taxable in Canada, either on account of capital or income.
Cryptocurrency investors are not anonymous and can almost always be identified by tracing a sale back to the initial purchase of cryptocurrency by online bank transfer, credit card or wire transfer. Under Canadian regulation, Bitcoin exchanges are treated as money service enterprises and are therefore subject to FINTRAC registration and adherence to anti-money laundering legislation.
In Canada, the penalty for making false statements or omissions on a tax return is 50% of unreported tax. In our example, failure to report the Bitcoin sale in 2018 would draw a $60,000 penalty on top of the minimum $120,000 of taxes payable by a British Columbia resident (before arrears interest), assuming capital treatment and no other taxable income for the year.
Whether cryptocurrency is held on account of capital or income requires careful consideration. Relevant factors include the frequency of the taxpayer’s transactions in cryptocurrency, holding periods, the taxpayer’s knowledge and experience with cryptocurrency, time and effort expended by the taxpayer in that endeavor, and the manner in which cryptocurrency purchases were financed.
In our example, if the Bitcoin owner made multiple purchases per month, in multiple forms of cryptocurrency and spent significant time and effort learning about the digital economy, the Bitcoin would be inventory or, at the very least, an “adventure in the nature of trade” under the Income Tax Act. The entire 2018 gain would therefore be taxable as income, attracting almost $280,000 in taxes payable by a B.C. resident, in contrast to the capital tax treatment calculation shown above.
The 2019 federal budget may also affect investors engaged in cryptocurrency trading activities through registered accounts such as a tax-free savings account (TFSA) or registered retirement savings plan (RRSP). If trading in cryptocurrency is considered carrying on business through a registered account, or if cryptocurrency held in a registered account is a non-qualified investment, from 2019 on, such income is fully taxable to the account holder, while liability of the trustee (usually a financial institution) will be limited.
Tax preparers, bookkeepers, accountants and financial advisors can help clients identify the tax risks associated with trading or otherwise dealing in cryptocurrency and are advised to seek or direct clients to obtain tax advice on this matter.
— Allison Eng, Wills & Estates Lawyer, McQuarrie Hunter LLP