Guide to CRA Taxation in Canada

The financial market has always been a pillar of economic growth and sustainability. Over the years, it has flourished and evolved as more and more people joined and began trading assets. Stocks, bonds, and exchange-traded securities have always been the most common form of investments. But in 2009, a different kind of security or medium of exchange came and started a digital revolution in the market. Somewhere in the world, a shadowy figure, disguised as Satoshi Nakamoto produced the first Bitcoin. It has become more popular and has observed a continuous boom since then. Due to limited interventions, thousands of other cryptocurrencies emerged and gained more followers and traders. With billions of dollars circulating, bitcoin has quickly become the latest fad in the world of trading.

Given all these, there are two primary questions that one wishes to determine before joining. How much is needed to create an account and start trading? How huge is the possible gain or loss? But another question arises as it continues to capture the attention of the policy-makers. How much tax is imposed on bitcoins?

A Brief Overview of Bitcoin

Bitcoin is a decentralized digital currency without a single administrator like a central bank. It means it can be transferred from user to user on the peer-to-peer bitcoin network without intermediaries like banks. Transactions are monitored via cryptography and are recorded in a blockchain that serves as the system’s public ledger. It was created in 2008 by a person hiding behind the name Satoshi Nakamoto. The actual use and release as open-source software began in 2009. Like in the usual trading, one has to create a bitcoin account before joining, but the functionality of bitcoin vastly differs from the rest of securities and currencies. It can be traded with other digital currencies, goods, and services. However, risks are not limited due to volatility and lower restrictions. Despite this, its substantial growth and expansion have been observed for the last ten years.

In a 2017 study conducted by the University of Cambridge, it was found that there were already three to five million unique cryptocurrency wallet owners, mostly using bitcoins. Their reasons for participating were as follows: ideologies that gear toward anarchism, decentralization and libertarianism, convenience, investment uses, and anonymity. While some of the primary reasons sounded quite preposterous, bitcoin has never lost its appeal as it generated more monetary inflows.

It is nothing but a digital casino for the skeptics as cases of losses by trillions overnight raised uncertainties. Nevertheless, bitcoin remains a staple for most traders, given the growing figures. For the believers, this digital transformation is a stepping stone towards a utopian future. With all these considerations, government interventions with regards to safety and transparency slowly became tighter. But the most notable change was when it became taxable some years ago. In 2020, a clearer guide for the taxation of bitcoin and other cryptocurrencies was released.

Why Is Bitcoin Taxable?

Although money has taken various forms over the past centuries, its primary functions have remained consistent. Generally, money has three basic functions: store of account, unit of measurement, and medium of exchange. Meanwhile, bitcoin and other cryptocurrencies do not fall under any of these. They can be traded digitally but can’t be used as legal tender. With that being said, why do governments apply taxes to bitcoin?

Tax is one of life’s constants, and cryptocurrency is not exempted. Regardless of how you earn, trade, and use bitcoin, it is subject to taxes. In Canada, the revenue agency views it as a commodity like gold and oil. The US has a similar opinion as it considers bitcoin and other cryptocurrencies as properties for tax purposes. Similarly, mining bitcoin is considered acquiring a property or realizing business income or capital gains. The Canada Revenue Agency cited an example in 2013. According to it, if a vendor accepts bitcoin as payment for goods and services, the fair value of those goods and services must be treated as part of business income. Hence, digital currencies like bitcoin are taxed like any other assets.

To better understand it, most countries, including Canada and the US, consider prerequisites, so bitcoin taxation boils down to two instances:

• If bitcoin is acquired through mining, taxes apply even if it is not sold.
• If bitcoin is disposed of, cash on an exchange, and used to avail goods and services, it will be subject to tax if it exceeded its fair value when it was acquired. The reason for this is the potential capital gain, which is always taxable regardless of its short-term and long-term rates.

Whether an item is tangible or intangible, as long as it produces monetary gains and advantages to the owner, it is always taxable.

Guide for Bitcoin Users and Tax Professionals

Reporting Business Income or Capital Gains from Bitcoin Sale or Disposition

• Selling bitcoin
• Transferring bitcoin as a gift to another user
• Trading or exchanging bitcoin, including its disposition to obtain another bitcoin.
• Converting it to a government-issued currency like Canadian Dollars (CAD)
• Using it to purchase goods or services

Bitcoin as Business Income

The income generated from the disposition of bitcoin may be considered business income or capital gains. To report it accurately, the owner must first determine what kind of income it is. These are the common indicators of carrying on a business:

• The activities are done for commercial purposes or in a viable way.
• Activities are done in a typical business setup, such as preparing a business plan and acquiring capital or working assets.
• A product or service is promoted.
• There is an intention of realizing income even if it’s doubtful in the short run,

In a nutshell, business activities have regularities and repetitions over time. Business activities usually involve regularity or a repetitive process over time, but each situation has to be viewed separately.

Another factor to consider is the date of business establishment. If one is still in preparation, the business has not started yet. One thing to be looked at is the activity done as part of its income-earnings process. With that, assets in the form of cash or properties acquired or received before the business starts are excluded from business income and are not taxable.

The following are some examples of cryptocurrency business:

• Tmining
• trading
• exchanges, including ATMs

Paragraphs 9 to 32 of Interpretation Bulletin IT-479R : Transactions in securities provide general information to help you figure out if transactions are income or capital gains. Although the discussion of income and capital in this interpretation bulletin is helpful, remember that cryptocurrencies are not Canadian securities under the Income Tax Act.

Given this, if the sale or disposition of bitcoin is part of a business, income realized from it is considered business income and taxable. Buying bitcoin for profits in the future is also considered as business income. Bitcoin transactions as part of business income are reported via T2125 Statement of Business or Professional Activities.

Bitcoin as Capital Gains

If disposing of or selling bitcoin is not part of the business process, the excess amount from the original price is considered a capital gain. Bitcoin capital gains are included in income for the year, but only 50% is taxable, referred to as taxable capital gain. Meanwhile, losses on the sale of bitcoin can only be used to offset capital gains, not tax reductions. The value can be carried over to the following year if no capital gain is realized in the current year.

Any capital losses resulting from the sale can only be offset against capital gains; you cannot use them to reduce income from other sources, such as employment income. You can carry forward your capital losses if you do not have any capital gains against which to offset those losses for the year or any of the preceding three years. It can be reported via Guide T4037, Capital Gains.

Trading Bitcoin for Another Bitcoin or Other Cryptocurrencies

Barter transaction rules apply to the sale of bitcoin or any cryptocurrencies for another cryptocurrency. The value or earnings realized from this transaction should be converted into Canadian dollars. Since it is a disposition or sale of bitcoin, it has to be reported on ITR either as business income/loss or capital gain/loss.

Mining of Bitcoin and Other Cryptocurrencies

Mining involves specialized computers for complicated equations to confirm bitcoin transactions. These are included in blocks, and a number that will create a valid block is estimated or guessed. A valid block is accepted as part of a public ledger called a blockchain. When a valid block is created, the miner will receive two payments in a single amount, representing the creation of a new cryptocurrency and the fees included in the new block. The income tax treatment depends on whether it is a hobby or a business activity. To simplify it, if a hobby generates income, it is considered a business activity and subject to taxes.

Valuing Bitcoin Either As Capital Property or Inventory

You need to know how to value your bitcoins to prepare your tax return. It is dependent on whether they are considered inventory or capital property. When holding cryptocurrencies as a capital asset, you must keep track of the modified cost base to report any capital gains appropriately. If the cryptocurrencies are considered inventory, apply one of the two techniques for consistently valuing inventory from year to year:

• Value each item in the inventory at its acquisition cost or fair market value at the end of the year, whichever is lower.
• At the end of the year, value the entire inventory at its fair market value (generally, the price that you would pay to replace an item or the amount that you would receive if you sold an item)

Depending on the type of business, alternative inventory valuation methods may be applied. Property described in the inventory of a business that is an adventure or concern in the nature of commerce, for example, must be valued at the price paid for it.

To determine which is lower, you must compare the cost and the fair market value of each item. The total value of your inventory at the end of the year is calculated using the lower amount for each item (or each class of things if specific items are difficult to separate).

"Cost at which the taxpayer obtained the property" refers to the initial cost of the inventory plus all reasonable costs expended to acquire that block of cryptocurrency.

Other Things To Remember

Keep Books and Records

You must retain records of your cryptocurrency transactions whenever you buy or dispose of cryptocurrencies. It includes companies that accept cryptocurrencies as a form of payment for goods and services.

Cryptocurrency exchanges have different policies regarding the types of documents maintained and how long they keep them. Suppose you utilize bitcoin exchanges and export data from them regularly to avoid losing information that you'll need to report your transactions. You must keep records and documents for at least six years after the end of the tax year to which they pertain.

You should maintain the following records on your cryptocurrency transactions:

• the date of the transactions
• the receipts of purchase or transfer of cryptocurrency
• the value of the cryptocurrency in Canadian dollars at the time of the transaction
• the digital wallet records and cryptocurrency addresses
• a description of the transaction and the other party (even if it is just their cryptocurrency address)
• the exchange records
• accounting and legal costs
• the software costs related to managing your tax affairs.

As a miner, keep the following records:

• receipts for the purchase of cryptocurrency mining hardware
• receipts to support your expenses and other records associated with the mining operation (the mining pool details and records

Please keep in mind that various types of software are available for tracking cryptocurrency trades and maintaining records. The CRA does not recommend any particular software, so pick the one that works best for you in record keeping.

Stolen Bitcoin

If you were defrauded of your bitcoins, you might have claimed it as a theft loss on your taxes. However, the deduction for personal theft losses is no longer available under the new tax laws.

Another tax rule does not appear to be in favor of digital currency owners. The IRS permits owners to exchange properties for similar property types without incurring a tax burden right away. It is known as a like-kind exchange. Bitcoin users wanted to know if they could do like-kind transactions with other cryptocurrencies before the tax law changes.

It pays to know the basics of how the CRA treats the taxation of Bitcoin and other cryptocurrencies in Canada. To know more, contact Rotfleisch & Samulovitch PC today.

Pro Tip

The CRA will never ask for payment in cryptocurrency. If you get a call from somebody claiming to be with the CRA, you should verify the caller’s legitimacy.

Key Takeaways

Bitcoin continues to grow despite the levels of risks associated with it. Even if it is not a legal tender in Canada, the fact that it generates income or gains in various ways makes it taxable. If you are trading bitcoin or interested to do so, you may reach out to tax experts or attorneys for more information.

FAQs on CRA Bitcoin Taxation in Canada

Can the CRA track Bitcoins?

Different softwares can track bitcoin transactions. Although the CRA does not endorse any particular type, it does a bitcoin tax audit regularly.

How important are digital wallets when it comes to tracking Bitcoins?

Digital wallets are important for security purposes. Users can create strong passwords, complete purchases, and monitor transactions with ease and safety.

Do I need to charge GST/HST on Bitcoin transactions?

Goods and services exported from Canada may be untaxed. They are commonly referred to as zero-rated goods or services under the GST/HST rules. Hence, you don’t have to pay or charge anything.

Disclaimer:

"These articles provide information of a general nature only. It is only current at the posting date. It is not updated and it may no longer be current. It does not provide legal advice nor can it or should it be relied upon. All tax situations are specific to their facts and will differ from the situations in the articles. If you have specific legal questions you should consult a lawyer."

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