As the popularity of crypto currency increases (El Salvador becoming the first country to adopt a cryptocurrency, with others looking to follow) and Bitcoin hitting an all-time high, the area has become a rapidly growing focus area for HMRC.
HMRC’s latest ‘nudge letter’ campaign (letters sent to taxpayers saying essentially: “we know you have something, should you be reporting and paying tax?”) advises taxpayers who may have failed to pay tax on their crypto assets, to rectify the situation.
As we have advised on a number of occasions, HMRC are armed with a wealth of data gathering information, in this case including crypto asset exchanges, information exchanged with other countries and other sources, for example trawling social media, meaning that investigations into crypto investors are likely to be imminent. For example, in 2019, several crypto exchanges publicly acknowledged that HMRC had made requests for specific data about their users and transactions.
Nudge letters generally mean that HMRC will be looking into the area, as they have received third party sourced information. As with the nudge letters regarding offshore assets, or non-domiciles, taxpayers who receive a nudge letter, or who may be generally concerned about their tax position in respect of crypto assets, should take corrective action as soon as possible.
Nudge letters are never random, they are part of a planned, targeted campaign!
Taxation of crypto assets
There are no specific tax rules dealing with the taxation of crypto assets.
Due to the rapid growth in popularity of crypto assets over recent years, HMRC published its own internal crypto assets manual in March 2021. The manual, which is available online, sets out how existing UK tax rules are applied to crypto assets.
The starting position is what is a crypto asset, which the manual defines as a "secured digital representation of value or contractual rights that can be transferred, stored or traded electronically". The term covers a number of different types of digital assets, including and the most common:
- exchange tokens (which are intended to be used as a means of payment and include crypto currencies such as bitcoin);
- utility tokens (which provide the holder with access to particular goods or services on a platform);
- stablecoins (which may be pegged to other assets considered to have a stable value such as US dollars or pounds sterling, or precious metals such as gold);
- security tokens (which provide the holder with particular rights or interests in a business, such as ownership, repayment of a specific sum of money, or entitlement to a share in future profits).
It is interesting that parts of the compliance section of HMRC’s manual (which deals with risk indicators and the conduct of investigations) has largely been redacted from public view, which indicates that crypto assets are generally treated as a sensitive area by HMRC.
Most individuals and the assumption that HMRC makes, is that the vast majority of individuals will hold crypto assets as a personal investment (i.e., receiving and disposing of bitcoins on an infrequent basis in order to realise any appreciation in value, similar to shares). Under UK tax rules, holding crypto assets in this way on which any profit is realised on disposals will be subject to UK capital gains tax in the normal way, charged at 20% on higher rate tax payers, subject to the capital gains tax annual exemption.
However, if an individual takes part in frequent trading, any profits may instead be subject to UK income tax, as trading income.
For those of our clients who trade in shares, or similar, we give the same advice.
As crypto assets are digital in nature and therefore do not have a physical location, it is usually necessary to determine their location for tax purposes. HMRC’s view is that exchange tokens are located for tax purposes where the beneficial owner is resident, so all transactions by a UK tax resident will be subject to UK tax.
Due to the nature of crypto assets being virtual and given HMRC level of interest, individuals should ensure that they maintain adequate records of their investments, in case of a tax return compliance check or investigation by HMRC.
HMRC’s standard Statement of Assets and Liabilities form, which forms part of an investigation in order for HMRC to gather information on all significant assets held by a taxpayer, now includes a crypto assets section.
The type of information that should be maintained to support crypto assets (as you would for stocks and shares) comprises:
- the types of crypto assets held;
- the date of any transactions (this is important to determine if income tax or capital gains tax applies, as explained above);
- the number of units involved.
- the value of the transactions (as at the date of each transaction);
- the cumulative total of the investment units held; and
- any relevant bank statements and wallet addresses.
To support the above information, we recommend taking screen shots, in case it is not possible to obtain statements or similar at a later date.
As with any previous nudge letter, if one is received it is important that it is actioned, whether there is anything to report or not. If the letter is not responded to, then HMRC are likely to escalate the action and on the basis that you are carelessly or deliberately refusing to deal with the matter and a tax liability arises it can result in significant penalties, in addition to any tax due.
Outside of nudge letters, if you have made chargeable gains on crypto assets then you need to let us know as part of your annual tax reporting, so that the details can be included on your tax return.
If you have made a chargeable gain on crypto assets that you have not reported, if it relates to the 2020 tax year, then we can look to amend your tax return, reporting the gain, with the additional tax being paid together with interest. If transactions were earlier than the 2020 tax year, then best advice is to make a voluntary disclosure to HMRC, which is something we can advise and support you on.
If you receive a nudge letter regarding crypto assets or any other matter or believe you need to make a disclosure, or you would like to discuss your situation, please do not hesitate to contact us.