Legalities and Tax Implications of Using Bitcoin

The following is intended to be general information and not accounting, taxation, investment or legal advice.

In Australia, Bitcoin is legal and recognised as property for tax purposes. While not considered legal tender or foreign currency, Bitcoin has gained acceptance as a form of payment and investment. Cryptocurrencies, particularly Bitcoin, have increasingly become subjects of legal debate, especially regarding their classification as property. This classification carries significant legal and financial consequences, particularly in the realms of taxation and insolvency. This article outlines the key tax and legal considerations for businesses accepting Bitcoin and individuals investing in it.

Cryptocurrency as Property: Legal Precedents and Recognition

The Australian Taxation Office (ATO) treats Bitcoin and other cryptocurrencies as property, not as currency, which means they are subject to capital gains tax (CGT) rules. The ATO has stated the following in regard to the classification of Bitcoin:

The ATO’s view is that Bitcoin is neither money nor a foreign currency, and the supply of bitcoin is not a financial supply for goods and services tax (GST) purposes. Bitcoin is, however, an asset for capital gains tax (CGT) purposes.

The question of whether cryptocurrencies should be classified as property has been addressed in various high-profile legal cases across the globe. Notably, in 2016, the United States Bankruptcy Court dealt with Bitcoin in Kasolas v Lowe; Re Hashfast Technologies LLC. However, the court did not decide whether Bitcoin constituted property.

Subsequent cases have clarified this issue. In 2018, both the Supreme Court of Korea and the Shenzhen Court of International Arbitration recognised Bitcoin as a form of property. In 2019, the Singapore International Commercial Court, in B2C2 Ltd v Quoine Pte Ltd, further affirmed this stance. More recently, in AA v Persons Unknown, the High Court of Justice of England and Wales agreed with this classification, relying on the precedent set by the Singapore court. These cases have set a clear precedent that cryptocurrencies are legally recognised as property in many jurisdictions.

The classification of cryptocurrency as property was further solidified in the landmark case of Ruscoe v Cryptopia Ltd (in liquidation). Cryptopia Ltd, a cryptocurrency exchange, was hacked in January 2019, resulting in the loss of approximately NZD 30 million in cryptocurrency. The company entered liquidation in May 2019, and the court had to determine whether the remaining cryptocurrency held by Cryptopia was “property” and if it was held on trust for the account holders.

The court concluded that digital assets are indeed “property” and are held on express trusts for the account holders. This decision has significant implications for how digital assets are treated in insolvency and trust law in New Zealand.

This legal recognition is supported by scholarly literature, which generally concurs that cryptocurrencies can be considered property. The unique characteristics of Bitcoin, such as its decentralisation and lack of a known issuer, also suggest that it meets the definition of a commodity—a bearer asset or raw material like metals or agricultural goods. Statements from key figures in regulatory bodies around the world like the US Commodity Futures Trading Commission (CFTC) and Securities and Exchange Commission (SEC) indicate a trend towards formal recognition of cryptocurrencies as commodities.

Business Considerations:

Trading Stock: When businesses accept Bitcoin as payment for goods or services, it is considered trading stock for tax purposes.

Income Calculation: The Australian dollar value of Bitcoin transactions must be included in calculating a business's assessable income. This means recording the fair market value of Bitcoin at the time of each transaction.

GST Registration: Businesses dealing in Bitcoin may need to register for Goods and Services Tax (GST) if their annual turnover reaches or exceeds $75,000 AUD. However, since July 2017, the supply of Bitcoin itself is not subject to GST.

Record Keeping: Detailed records of all Bitcoin transactions must be maintained, including dates, amounts, and purposes of transactions, as well as the Australian dollar value at the time of each transaction.

Investment and Capital Gains Tax:

The classification of cryptocurrencies as property has important tax implications, particularly concerning Capital Gains Tax (CGT). When a cryptocurrency is sold or exchanged, any increase or decrease in its value since its purchase can result in a CGT liability or a capital loss tax credit. This applies when cryptocurrency is converted back into Australian dollars or swapped for other cryptocurrency assets.

For lawyers and accountants, it is crucial to have detailed information about the purchase prices of cryptocurrencies to accurately assess the associated tax liability. Many investors use a strategy known as dollar-cost averaging, where they purchase holdings incrementally over time, investing a fixed amount regularly, regardless of the asset’s price. This approach helps mitigate the impact of market volatility and often results in a lower average cost per share.

Understanding this purchasing pattern is essential when negotiating the disbursement of cryptocurrency pursuant to court orders. Lawyers must ensure that investors provide comprehensive disclosure of their purchasing and trading history to calculate tax liability accurately. This involves determining the overall purchasing cost and the "Average Cost Basis" of the total holdings. Seeking taxation advice from accountants specialising in cryptocurrency taxation before finalising settlements is also advisable.

Managing Crypto Asset CGT Events

The classification of cryptocurrency transactions as CGT events is another critical aspect to consider. Transactions involving the disposal, exchange, or swap of crypto assets result in either a capital gain or loss. If the crypto asset is held for at least 12 months, there may be eligibility for a CGT discount, potentially reducing the tax burden. However, crypto assets held as investments are not considered personal use assets and are not exempt from CGT. Lawyers must ensure meticulous record-keeping of each crypto asset and transaction to accurately determine capital gains or losses.

Understanding the timing and type of CGT events is vital for managing crypto assets. These events can include selling, gifting, trading, exchanging, or swapping crypto assets, converting them to currency, or using them to purchase goods or services. The calculation of CGT for crypto assets follows the same principles as other CGT assets, based on net capital gains for the year. Converting values into Australian dollars and utilising online tools for calculation and record-keeping can aid in ensuring compliance and precision in tax obligations.

To calculate your capital gain, you need to subtract the cost base (the amount you paid to acquire the Bitcoin) from the capital proceeds (the amount you received when disposing of the Bitcoin).

• Cost Base: This is the amount you paid for the cryptocurrency, including any additional costs such as transaction fees.

• Capital Proceeds: This is the amount you received from the sale or disposal of the cryptocurrency.

Other Cryptocurrency Taxation Events

Cryptocurrency taxation can be complex, involving specific events such as chain splits and staking, each with unique tax implications.

Chain Splits: A chain split, where a blockchain diverges into two or more competing versions, can result in investors receiving new crypto assets. These assets are not immediately classified as ordinary income or a capital gain at the time of receipt. However, when disposed of, investors must calculate the capital gain or loss, considering that the cost base of the new asset is zero. Holding the new asset for more than 12 months may entitle investors to a CGT discount.

Staking: Staking involves locking crypto tokens to validate transactions and create new blocks, with rewards treated as ordinary income at the time of receipt. When disposing of staked assets, investors must calculate whether a capital gain or loss has been made.

Airdrops: Airdrops, another method of distributing crypto assets, can have different tax treatments based on their nature. Established tokens received through airdrops are considered ordinary income, while tokens from an initial airdrop, where there has been no prior trading, are not immediately classified as ordinary income or a capital gain.

Given the complexities surrounding cryptocurrency taxation, specialised expertise is crucial for investors and legal professionals. Accurate record-keeping and a thorough understanding of specific tax treatments for various crypto-related events are essential to ensure compliance and optimise tax outcomes.

Personal Use Considerations:

Personal Use Asset: Bitcoin can be considered a personal use asset if it's kept mainly for personal use or consumption. In such cases, capital gains on assets acquired for less than $10,000 are exempt from CGT.

Timing and Usage: The classification as a personal use asset depends on how the Bitcoin is used from acquisition to disposal. Bitcoin held as an investment before personal use is less likely to qualify for this exemption.

Capital Losses: Any capital losses on personal use assets, including Bitcoin, are disregarded for tax purposes.

Compliance, Regulation and Reporting:

The Australian Taxation Office (ATO) has established a specialist task force to ensure compliance with cryptocurrency tax obligations. Cryptocurrency exchanges are required to report customer transaction data to the ATO, facilitating data matching to verify correct tax reporting.

The Australian financial intelligence regulator, AUSTRAC, has the authority to regulate all cryptocurrency exchanges operating in Australia. This regulatory oversight is part of the broader effort to ensure compliance with anti-money laundering (AML) and counter-terrorism financing (CTF) regulations. Since 2018, new laws have been introduced to regulate cryptocurrency exchanges, requiring them to register with AUSTRAC and adhere to strict reporting and compliance obligations.

AUSTRAC's Role in Regulating Cryptocurrency:

AUSTRAC's responsibilities include monitoring financial transactions to prevent money laundering, terrorism financing, and other financial crimes. Cryptocurrency exchanges must register with AUSTRAC, report suspicious transactions, and comply with AML and CTF requirements. This includes the obligation to verify the identities of customers, monitor transactions, and report any activity that may be deemed suspicious.

Legal Ambiguity of Bitcoin:

Despite regulatory measures, the legality of Bitcoin and other cryptocurrencies remains somewhat ambiguous, largely due to their decentralised and anonymous nature. Bitcoin is a digital currency that is not physically printed, and its transactions can be conducted with a degree of anonymity. This anonymity can lead to legal questions depending on how the currency is used, particularly if it is involved in activities such as money laundering or other illicit activities.

Case Law on Cryptocurrency Regulation:

FTX Australia Pty Ltd and FTX Express Pty Ltd (Admins Apptd) (No 2), Re [2023] VSC 759:

• In this case, FTX Express, a registered cryptocurrency exchange with AUSTRAC, facilitated the acquisition and disposal of digital assets by Australian customers. The case highlighted the importance of AUSTRAC registration and compliance for businesses involved in cryptocurrency exchanges, particularly those dealing with the direct exchange of fiat currency for digital assets. The ruling underscored the regulatory framework governing such transactions.
  

Rhino Trading Pty Ltd (T/as OTCPro) v Lotte Enterprise Pty Ltd [2024] VSC 52:

• This case reinforced AUSTRAC's reporting obligations for cryptocurrency exchanges, particularly when fiat currency (such as AUD) is exchanged for cryptocurrency or vice versa. The court's ruling emphasised that such transactions constitute a cryptocurrency exchange and, as such, must comply with AUSTRAC's AML and CTF regulations. The decision in this case further clarifies the legal requirements for cryptocurrency exchanges, especially regarding the conversion of fiat currency.

Implications for Cryptocurrency Exchanges:

These legal precedents and AUSTRAC's regulatory powers highlight the need for cryptocurrency exchanges in Australia to ensure full compliance with AML and CTF regulations. Failure to adhere to these regulations can result in significant legal and financial consequences, including penalties and potential shutdowns.

ASIC Information Sheet 225 (INFO 225)

The Australian Securities and Investments Commission (ASIC) has provided critical guidance for businesses involved with crypto assets, including Bitcoin, through its Information Sheet 225 (INFO 225). This document outlines the obligations under the Corporations Act 2001 and the ASIC Act 2001 for entities dealing with cryptocurrencies, tokens, and stablecoins. ASIC emphasises that Australian laws apply to crypto assets promoted or sold in the country, regardless of whether the operation is decentralised or offshore. Key areas of focus include the need for businesses to determine if their crypto assets constitute financial products, which would require compliance with specific regulatory frameworks, including obtaining an Australian Financial Services (AFS) license. Additionally, ASIC warns against misleading or deceptive conduct in the promotion and trading of crypto assets, highlighting the importance of transparency and adherence to legal obligations to protect consumers and maintain the integrity of Australia’s financial markets.

Conclusion:

As Bitcoin and other cryptocurrencies continue to integrate into the Australian economy, understanding and complying with the relevant tax and legal regulations is crucial for both businesses and individuals. The regulatory landscape is evolving, and the government is working on developing more comprehensive frameworks for the cryptocurrency sector. While cryptocurrencies like Bitcoin offer a unique and decentralised method of transaction, their use and exchange are subject to strict regulatory oversight in Australia, aimed at preventing financial crimes and ensuring the integrity of the financial system.

Remember, staying informed about changes in cryptocurrency regulations and maintaining accurate records of all Bitcoin-related activities is key to ensuring compliance with Australian tax law.

Disclaimer: The information provided here is for educational purposes only and should not be considered legal, accounting or taxation advice. If you need legal assistance, we recommend contacting Carter Dickens Lawyers or consulting a qualified attorney. Legal matters can vary based on laws and regulations, and it is important to seek professional advice for your specific situation.