Taxes on Bitcoin in the UK
Why are Cryptocurrencies such as Bitcoin taxed?
Cryptocurrencies have become a much-preferred way to invest and transact. Because of this many individuals have started using cryptocurrencies and this has led the value of some of the cryptocurrencies to rise to states which we thought cannot be impossible. At the time of writing this article (January 2021), the value of bitcoin is ~$37000. These values have aroused the interest of many traders, individual or licensed, alike to invest in cryptocurrencies. As popular cryptocurrencies out there, we can point out Bitcoin and Ethereum.
Bitcoin is still the most popular and profitable cryptocurrency out there. Since it was introduced to the world in 2009, it has come a long way to the esteemed state it is now in. However, these cryptocurrencies have created a grey area in how they should be taxed. HMRC, the United Kingdom’s tax, payments, and customs authorities do not consider cryptos, especially Bitcoin as per the legislation for real money. They treat it with the legislation of shares and securities. Therefore, when Bitcoins are disposed of, Capital Gains tax rules are applied.
Income tax is also impossible, but you will have to be constantly and frequently buying and selling bitcoin with a high level of organization that HMRC deems a trade to be taking place. Therefore you will have to focus on capital gain taxes more than income taxes.
Cryptos are pooled by time. This makes it easier to analyze an individual’s tax situation to the HMRC. For example, if you are holding three cryptos, like Bitcoin, Ethereum, and Tron, you will have three pools under you. Every transaction (buying or selling of the relevant cryptocurrency) will be pooled and therefore nothing will go exempt from tax.
How does HMRC track down the transaction in Bitcoin?
Before delving deep into this scenario, let’s focus on how HMRC would track down the transaction in Bitcoin. It is common knowledge that HMRC has been requesting data about transactions and the names of people from various crypto exchanges. They have been doing this to eliminate the tax evaders and with that crypto exchanges come under fire.
According to Coindesk, the industry sources have mentioned that HMRC has been sending letters to several crypto exchanges in the UK, including Coinbase, eToro, and CEX.io, asking for details of their users and transaction data. It is evident that HMRC and the coin exchanges will soon be cooperating on this matter to identify the individuals who evade taxes.
There are two ways that they can tax crypto traders as I mentioned earlier. First of all, there is mining. Mining has become very popular directly proportional to the popularity of cryptocurrencies themselves. If you are mining Bitcoin, what happens is that you will use the computing power of your mining rig or the regular pc to calculate complex algorithms that will eventually verify each transaction in a blockchain.
Each time you verify a transaction, you are rewarded with the relevant cryptocurrency. If you do mining, HMRC recognizes you as a trader or makes your profession, a trader. Therefore, all the cryptocurrencies you are mining may be imposed with income taxes. Hence, any profits you may have gained through mining will be liable for the same taxation as salaries. (For example, income tax, and national insurance contribution). If the miner retains the bitcoins and then disposes of them later, a capital gain tax will also be possible to impose.
The other way of acquiring Bitcoin is by buying it from a coin exchange with sterling or USD. In this, HMRC recognizes you to be valuing Capitalgain appreciation. Due to this, your transactions can be liable to CGT or capital gain taxes.
How to calculate crypto taxes
Let’s delve deeper into how we actually calculate these taxes now.
As I said earlier, every crypto investor has a pool of coins relevant to his trading coin.
It is as follows,
A trader purchases 10 bitcoins for £2,000, and a few years later, he buys another 3 coins for £15,000. When these cryptos are pooled, regardless of the value of a single purchase, it counts the cost of the total number of coins. In this case, it will be £17,000 for 13 coins. And because of that, the cost of one coin would be £17,000 x1/13.
Let’s imagine that we sell 5 Bitcoins for £40,000. Then the total profit would be as shown below.
The amount of sale – £40,000
The cost of the sale – £6,538
Total profit received – £33,462
Now you are probably wondering how to calculate the cost of the sale. It is as follows.
£17,000 x 5/13 = £6,538
Now, it is clear to you that the cost of one bitcoin is not of much importance. What counts to the end profit according to the HMRC will be the total cost for the total number of Bitcoins that you have.
The capital gain tax may be applied to the total profit received, in this case, £33,462.
Though the basic manner of tax calculation is as the above, there can be instances, where the method may slightly change.
Just like the rules for shares and securities, these cryptos are also bound by the 30-day rule. That is to say, if you make a purchase of bitcoin within 30 days of a sale, those coins will not be pooled. They are deemed to have been sold first.
Let’s use the above example once again. If we carry out the above transaction and then make a purchase of 2 Bitcoins on the 20th day from the initial sale, the profit calculation will be as follows.
The non-pooled sale would be as follows:
(2 out of 5 Bitcoins sold)
- Total received £16,000 (Calculated as £40,000 x 2 / 5)
- Cost of Sale £11,000
- Profit would be £5,000 – subject to Capital Gains Tax
The pooled sale would be as follows:
(3 out of the 5 Bitcoins sold)
- Total received £24,000 (Calculated as £40,000 x 3 / 5)
- Cost of Sale £3,923 (Calculated as £17,000 x 3 / 13)
- Profit would be £20,077 – subject to Capital Gains Tax
Conclusion
According to the above calculation, we can consider the total profit to be £25,077. But the last time, when we did not purchase the two additional bitcoins, the total profit was calculated as £33,462.
Then, of course, you will have a pool of 10 bitcoins (original 13- 3 sold) with a cost of £13,077 (Original cost of £17,000- £3,923 to the sale)
The 30-day rule will sometimes be quite useful also. But for that, the initial purchases should be really low.
If you are wondering what are these ‘disposals’ and what types of transactions count as disposals, here’s a list.
- Selling Bitcoin for money
- Exchanging for another Crypto
- Using to pay for goods and services
- Gifting Bitcoin to another person (Not a spouse or civil partner)
These are the current legislation to tax cryptocurrencies. However, we can see that, as these are getting much more popular, these rules should be changed in the near future.
Take Action – 30 Minute Consulting Call – £99
