The Taxation of Bitcoin, Ethereum and Other Cryptocurrencies
The topic of cryptocurrency has taken center stage in public discourse, especially following Bitcoin’s spectacular rise in stock price up until Christmas 2017. On 22 October 2015, the European Court of Justice (ECJ) set out important milestones for the taxation of cryptocurrencies in its Hedqvist case (Az. C-264/14). The German government also took a stance on the taxation policy on mining and the use of cryptocurrencies in a parliamentary hearing (BT-Drs. 19/370 dated from 5 January 2018, p. 21 f.). Recent publications have been saturated with the topic of cryptocurrencies. In light of this, the following article aims to summarize what we already know and what remains open regarding the taxation of this new medium of exchange.
1. Value Added Tax (VAT): The ECJ Decision in Hedqvist and its Consequences
In its decision from 22 October 2015, the ECJ held that the trading of Bitcoins for conventional currencies and vice-versa is a paid service, which according to art. 135 para. 2 lit. e) VAT Directive is exempted from a VAT. It took the German tax authorities two years after the ECJ decision to reconcile the implementation of Hedqvist with the publications of the federal tax sheet (see BStBl. 2018 II, p. 211), a German Federal Ministry of Finance publication from 27 February 2018 (see BStBl. 2018 I, p. 316) and the expansion of the VAT Application Decree (Umsatzsteuer-Anwendungserlass; UStAE) (see sec. 4.8.3 para. 3a UStAE). According to the German fiscal authority the following principles now apply when assessing the tax implications of cryptocurrencies:
- Following sec. 4.8.3 para. 3a UStAE, virtual cryptocurrencies (such as Bitcoin, Ethereum, etc.) are to be treated equally with conventional currencies. It is necessary, however, that those involved with the transaction accept the alternative payment method and use it exclusively for the purpose of payment.
- The trading of cryptocurrencies for conventional currencies and vice-versa represents, as seen by the ECJ decision in Hedqvist, a taxable service that is exempted from a value-added tax according to sec. 4 no. 8 lit. b) German VAT Act (UStG).
- Furthermore, the use of cryptocurrencies as a payment method (for example, a payment made in Bitcoins for a service received) is not taxable.
- When cryptocurrencies are used as consideration for rendered services, the VAT calculation base is determined by the last publicized exchange rate of the respective cryptocurrency. The service provider is responsible for filing the respective pricing documentation of each transaction.
- The mining of cryptocurrencies, i.e. the provision of computing power being rewarded with tokens or transaction fees, is not taxable for German VAT purposes since “miners” do not act within a framework of mutual exchange.
- The provision of wallets and other trading platforms for cryptocurrencies are taxable services, as long as the service is provided within Germany for German VAT purposes.
Overall, it is positive to note that, following the ECJ ruling in the Hedqvist case (see above), the German tax authorities took a comprehensive position on the VAT treatment of cryptocurrencies.
However, the aforementioned principles set out by the German tax authorities should be taken with the utmost caution in cases where the respective cryptocurrency units/tokens contain functions that go beyond the function of a mere payment method. This applies in particular to sales in connection with so-called crypto tokens, which companies are increasingly issuing in the form of initial coin offerings (ICOs) for financing purposes. The VAT treatment of the issue, the exchange and the use of such crypto tokens therefore requires an individual consideration on the basis of the functions to be fulfilled by them.
2. (Corporate) Income Tax: Partial Legal Certainty
While the Austrian Finance Ministry has provided much clarity on the topic of taxation of cryptocurrencies within the private and business sector, the German tax authorities have only provided minimal information on how it will seek to regulate this market.
The following principles regarding income tax stem from a decree by Hamburg’s finance ministry dating back to 11 December 2017 (Az. S 2256-2017/003-52), a discussion between parliamentary state secretary, Dr. Michael Meister, and Lisa Paus (BÜNDIS 90/DIE GRÜNEN) on 5 January 2018 as well as information from the Inland Revenue Office North-Rhine Westphalia (Oberfinanzdirektion Nordrhein-Westphalen) provided on 20 April 2018.
According to the German tax authorities, the following discrepancies exist regarding the mining of cryptocurrencies by private investors:
- As long as the private investor is mining the currencies only occasionally, the profits can be regarded as other services (sonstige Leistungen) according to para. 33 no. 3 of the German Income Tax Act (EStG). Such other services are only subject to tax if they exceed a value of EUR 256.00 p.a..
- According to the view of the Inland Revenue Office North-Rhine Westphalia, the mining activities of established cryptocurrencies require so many resources that commercial profits can be assumed. Please see the section below regarding commercial investors.
- In the latter case, an individual assessment is required to determine if elements of a commercial business are met according to sec. 15 para. 2 EStG (particularly autonomy, sustainability, profit margins, participation in the economy and a distinction from mere asset management).
The German tax authorities regard the use of acquired cryptocurrencies by private investors as follows:
- The exchange of acquired cryptocurrencies (those which were not self-mined) into conventional currencies or into other cryptocurrencies within one year after their initial purchase by private investors represents a private sales transaction according to sec. 23 para. 1 sent. 1 no. 2 EStG. The same applies for the use of acquired cryptocurrency tokens as a payment method. On the other hand, no taxable event is triggered if the cryptocurrency tokens are disposed or used after at least one year past acquisition.
- The sale price should reflect the value of the acquired cryptocurrency, conventional currency or the goods in question. Should a profit margin be determined after a comparison with the acquisition cost (in the case of discrepancy in the dates of acquisition, the FiFo-Method should be applied), this profit should not be taxed according to sec. 23 para. 3 sent. 5 EStG if it is less than EUR 600.00 per year. Following sec. 23 para. 3 sent. 7-8 EStG, the use of losses is restricted.
According to the German tax authorities the mining and use of cryptocurrency tokens by commercial business investors should be classified as follows:
- The process by which cryptocurrencies are acquired, created and sold is subject to general valuation and accounting principles.
- The costs of mining for cryptocurrencies can be taken into account for the purposes of determining the tax base. Derived profits are fully taxable in Germany (i.e. subject to (corporate) income tax plus solidarity surcharge and trade tax).
Basically, the aforementioned statements of the fiscal authorities constitute important indications for the tax treatment of cryptocurrencies in general. However, it would be desirable if the German tax authorities would also take a stance on the following issues:
- Legal uncertainty exists with regard to the distinction between commercial/trading and asset managing activities of private investors in connection with the mining of cryptocurrencies in the usual courses (Proof-of-Work, Proof-of-Stake, Pool Mining and Cloud Mining). It remains to be clarified whether the same tax policies which regulate commercial securities trading (gewerblicher Wertpapierhandel) and commercial gold trading (gewerblicher Goldhandel) are transferable to cryptocurrency cases. Questions regarding the tax consequences of so-called (Hard) Forks, i.e. where an existing blockchain is split (for example, Bitcoin Case and Ether Classic), remain widely unanswered. The German tax authorities have still not taken a stance on whether this operation is a non-taxable event at all or is taxed according to exchange or value separation principles (Tausch- bzw. Wertabspaltungsgrundsätze).
- The tax treatment of Crypto Airdrops, in which participants in a blockchain project are provided with crypto coins or tokens free of charge, also remains uncertain. Especially questionable is whether the speculation period for private investors (see above) will be extended.
Any Questions? Please contact: Peter Scheuch or Dr So-Ang Park
Practice Groups: Tax & Private Clients and Corporate/Mergers & Acquisitions