This past year, Her Majesty’s Revenue & Customs (HMRC), the tax collecting department of the UK, demonstrated that it is cracking down on cryptocurrency traders who have not been filing the income associated with their cryptocurrency investing activity. HMRC sent information requests to high profile exchanges such as CEX.IO and Coinbase among others in effort to gather data about UK citizens who may be misreporting on their taxes.
In this guide, we discuss how the UK treats cryptocurrencies like bitcoin from a tax perspective.
As stated in their policy paper, HMRC views cryptocurrency as an asset—not as a form of currency.
Cryptoassets (or ‘cryptocurrency’ as they are also known) are cryptographically secured digital representations of value or contractual rights that can be:
The Cryptoassets Taskforce has identified three different types of cryptocurrencies:
The vast majority of cryptocurrencies including bitcoin fall into the “exchange token” category, and the UK has established clear guidelines for the tax treatments of these types of cryptocurrencies.
Because crypto is treated as an asset, capital gains taxes apply when you dispose of your crypto. The UK is not alone in this stance. Most governments around the world have taken a similar position with the tax treatment of cryptocurrencies like bitcoin as a capital asset.
In short, when you sell, trade, or otherwise dispose of your cryptocurrencies, you need to calculate your capital gain or capital loss on the transaction—just like you would if you were selling a stock.
Fred purchases 1 BTC for £6,000. Two months later, he sells this BTC for £7,000. From this transaction, Fred incurs a £1,000 capital gain from disposing of his BTC. This £1,000 is a form of taxable income.
Whenever you dispose of your cryptocurrency, you incur a taxable event. In other words, when you get rid of your cryptocurrency, you need to calculate the capital gain or loss that you incurred from the investment.
HMRC views the following as “disposals of your cryptocurrency”:
You officially dispose of your cryptocurrency, and incur a taxable event, when any of the above scenarios take place.
Fred buys 10 ETH for £1,000. A few months later, Fred trades 5 of those ETH for 0.2 BTC.
In this scenario, Fred disposes of his 5 ETH by trading them for BTC and incurs a capital gain or loss on the transaction.
If 0.2 BTC is trading for £600 at the time, Fred incurs a capital gain of £100 (£600 - £500).
The actual percentage that you pay in taxes on your crypto capital gains depends on the income tax bracket you fall under as well as the marginal tax rate. If your annual taxable income is greater than £150,000, you will pay a higher percentage tax rate than someone who is making just £45,000 annually.
Keep in mind that you only pay capital gains tax if your overall gains for the tax year (after deducting losses) are above the annual exemption limit of £11,700.
Calculating your gains and losses from your cryptocurrency trades and disposals is fairly straightforward. You simply take the difference between the sales proceeds from the disposal and the acquisition cost of the crypto asset—sale price minus buying price.
Put another way, you subtract your cost basis in the asset from the fair market value at the time you disposed of it. Cost basis is the amount that it cost you to acquire the cryptocurrency in GBP. Fair market value is the market price that you sold or disposed of the cryptocurrency in GBP.
Using Example 2 from above, Fred’s cost basis in 10 ETH is £1,000. Making his cost basis per ETH £100. Fred disposes of 5 ETH at a fair market value of £600.
£600 - £500 = £100 capital gain
Keep in mind that the UK uses share pooled accounting to calculate cost basis for capital gains tax calculation. This simply means that the costs incurred with acquiring your cryptocurrencies of the same type are averaged out on a per coin basis. This is different from using traditional inventory methods like FIFO or LIFO.
Additional rules like the same-day rule and the 30-day “bed and breakfast” rule that are used to prevent cryptocurrency investors from tax loss harvesting, selling assets at a low price and rebuying it afterward to recognize capital losses. More info on these specific rules can be found within this article discussing UK crypto tax calculations.
One of the fundamental properties of cryptocurrency is transferability. You can send bitcoin from one wallet to another without the need of a third party intermediary. This is a core feature that is essential to the technology. However from a tax reporting perspective, this transferability creates challenges for cryptocurrency exchanges and similar platforms that can’t provide capital gains and losses reports to their users as a result of this transferability. This challenge puts the onus of tax calculation completely on the user.
The problem arises from the fact that exchanges do not have cost basis information for all of your assets. As mentioned prior, cost basis per coin is needed information to carry out gains and losses calculation, and this ultimately prevents exchanges from being able to give you gains and losses reports. Let’s look at this problem through an example.
Jennifer buys 1 BTC on Coinbase for £5,000. She then transfers that BTC to her cold wallet storage for safe keeping. One year later, Jennifer sends her one BTC to Binance and trades it for 20 ETH.
In this example, Binance has no way of knowing what Jennifer’s cost basis of her 1 BTC that she transferred in. Binance can only see that 1 BTC entered Jennifer’s wallet on XYZ date. Binance has no idea when, for how much, or where that BTC was originally acquired. Because of this, Binance can’t possibly tell Jennifer what the capital gain or loss was on her BTC trade for ETH. It’s missing an essential piece of the equation: cost basis.
These types of transfers happen all of the time, and as a result, no single exchange that allows the open transfer of assets into and out of its platforms can provide users with concrete gains and losses tax reports.
The solution to this problem is to aggregate all of your cryptocurrency transactions that make up your buys, sells, trades, airdrops, mined coins, staked coins, etc into one unit of record. Once you have all of your transactions in one place, you can do the necessary gains and losses calculations for your tax reporting.
Thankfully, most cryptocurrency exchanges allow you to export files containing your complete transaction history. You can bring these reports into Excel or your preferred spreadsheet editor to manually compute your gains and losses and report these on your taxes.
Cryptocurrency tax software solutions like CryptoTrader.Tax, are built to automate this tax reporting process.
Instead of piecing your transaction history together by hand, you can import your historical transactions from your exchanges into your crypto tax software account. Integrations with exchanges, wallets, and other crypto platforms make this a simple process.
Once your transaction history is fully imported, you can generate capital gains and losses reports based on this data with the click of a button. These reports can be used with your tax filings. There are other solutions out there when it comes to cryptocurrency tax software, so it’s worth looking into your options.
It’s worth noting that most software is built to handle taxes in the United States and may not even support other countries. When doing your research on which software to use specifically aim for UK support.
When tax time rolls around and you need to report your gains and losses, you can use the Capital Gains Tax Service from HMRC in real-time, or report annually in a Self-Assessment tax return. After you have reported via one of these methods, HMRC will send you a letter/e-mail with a payment reference number and directions on how you can pay your tax bill.
Taxes aren’t anyone's favorite subject. When you combine taxes with the technical complexities of cryptocurrencies, it can complicate things. However, if you keep good records of your cryptocurrency transaction history and maintain a fundamental understanding of how the UK classifies cryptocurrencies, you will be in a strong position to remain compliant and in good standings with HMRC.
It’s worth pointing out that when in doubt you should reach out to a professional. Failing to file cryptocurrency-related taxes can lead to serious problems which include fines and potential prison sentences.