A primary reason for the increased interest in cryptocurrencies over the last few years is it's volatile value. As at January 2017, the market capitalisation was under $US20billion, by January 2018 it had grown to over $US800billion and now currently sits at around half of that value - $US450billion. Despite the ever increasing media coverage, if you are still confused by cryptocurrencies, don't worry you aren't alone. Many may think Bitcoin is a company or a stock but it's not. If you invest in Bitcoin you are buying currency.
What is Bitcoin?
Bitcoin is just one type of digital cryptocurrency that operates on a decentralised peer-to-peer network, with no central authority or government backing. Essentially, it's a piece of code, signed with a "personal key" and held in a digital wallet that is run through your computer. It is similar to internet banking, minus having to deal with a bank or international currency exchanges.
This piece of code could be copied and reused numerous times if it wasn't for the technology that makes cryptocurrencies a possibility, the blockchain.
What is Blockchain?
Blockchain is a necessary technology that records all transactions ever made in the cryptocurrency and who owns what coins. For transactions to occur, it must first be verified using a series of complex calculations created by the computers of many other users on the cryptocurrencies network. Once verification has occurred, it adds block to the chain, hence the name "blockchain". Therefore, no matter how many times a coin trades users, it can always be traced back to where it originated.
Bitcoin and the Mainstream Economy
Partly due to its volatile value, Bitcoin has a limited use in mainstream economy. Between the time a deal is struck and the time of delivery, the value of the currency can go up or down dramatically. The introduction of future Bitcoin contracts - derivatives - will help investors manage this risk. However, even with this in place, Bitcoin is still a volatile investment. The Bitcoin price spikes at the end of last year saw a range of rapid interventions from regulators around the world, including in Australia where the Australian Tax Office (ATO) is establishing a tax force to monitor cryptocurrency transactions.
Now, Bitcoin has become like a mainstream investment in one respect: the tax office expects a portion of the profits if/when you sell it.
The Tax Treatment of Cryptocurrencies
So you've decided to buy or sell cryptocurrencies. What does that mean for taxation? In Australia, the Australian Tax Office views cryptocurrencies as an asset, so how they tax it will depended on the nature of the transactions.
- Cryptocurrencies for personal transactions: if it's used to obtain goods or services for personal use, then the ATO will tax it as a personal asset, meaning any gain or loss is disregarded if the cost of the cryptocurrency is $10,000 or less.
- Cryptocurrencies for investment: if it's used as a capital asset - not for short term profit - the ATO believes Bitcoin would be subject to capital gains tax.
- Cryptocurrencies for trading: just like other assets, if cryptocurrency is used with the intention - blatant or underlying - to carry on a profit making business, then you are taxed on the full profit. If you are trading, essentially you are carrying on a business.
GST Treatment: It's important to remember that as of 1 July 2017, the sale and purchase of cryptocurrency is no longer subject to GST. We have outlined the current view of the ATO, however the tax treatment of cryptocurrency hasn't yet been tested in a court of law and is not clear cut. Anyone thinking of investing should be aware of potential tax consequences. We recommend consulting your XO Accounting advisor should you be thinking about investing in cryptocurrencies.