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Digital Currency: Basics and Tax Implications

What is Digital Currency (DC)?

DC is essentially electronic money. It’s not available as bills or coins. Cryptocurrency is a type of DC created using computer algorithms with the most popular being bitcoin.

No single organization, such as a central bank, creates DC. DC is based on a decentralized, peer-to-peer network. The “peers” in this network are the people that take part in DC transactions, and their computers make up the network.

DC can be used to buy goods and services, whether in store or online. DC may also be bought and sold on open exchanges (similar to a stock market).

DC is often created through a complex process known as “mining” and then monitored by a global network of computers. About 3,600 new bitcoins are created each day, with about 16.5 million now in circulation. Like all currencies, its value is determined by how much people are willing to buy and sell it for.

Tax – Buying and Selling Digital Currency

Gains or losses from selling or buying DCs must be reported on one’s tax return. These may be on account of capital (taxed at half rates) or ordinary income (full rate) depending on the context. It is not clear whether purchases and sales of bitcoins and other DC are subject to GST/HST.

There are no special tax rules directed specifically towards DC.  Like any property, where DC is acquired with the primary intention of selling it for a profit, any gains would be on an account of income, rather than capital.  Where property is acquired for some other purpose, such as generating ongoing income (like a rental property), the gain or loss on disposition is likely on account of capital.

When evaluating a taxpayer’s intention, CRA will generally consider factors such as: frequency of transactions; period of ownership; knowledge of industry; time spent on the activities; financing; and the nature and quantity of the property held.

It is also important to note that some DC do not produce income (generating neither dividends like a share, nor interest like a loan). With no plausible purpose other than resale, it becomes easier for CRA to take the position that the DC must have been purchased with the intention of selling it at a profit and therefore any gain or loss on disposition is on account of income. This may override the other factors noted above.

That said, CRA has administratively allowed gains on certain commodity investments to be on account of capital, even though they typically appear to be on account of income based on the factors above. One condition of this policy is that all such transactions are treated the same.  In other words, one could not simply classify it to be on account of capital in “gain” years, and then income in “loss” years. It is uncertain whether CRA would adopt the same policy for sales of DC.

Tax – Buying and Selling Goods Using Digital Currency

Similar to sales using traditional currency, DC received in exchange for goods or services must be included in the seller’s income for tax purposes. GST/HST would also apply on the fair market value (FMV) of goods or services bought or sold for DC (subject to the same rules as traditional currency). It is not clear whether the DC itself would be subject to GST/HST, meaning that the person using DC to pay for the goods or services would be required to collect GST/HST on the value of the DC.

CRA considers DC to be a commodity rather than a currency and, therefore, transactions involving DC are considered barter transactions. This means that the sale price to be recorded in income would be determined as the FMV of the goods or services provided. If that FMV is less readily available than the FMV of the DC, the value of the DC would be used to determine the sale price.

Also, being a commodity means that these assets are not eligible to be directly held in tax preferred registered accounts (e.g. RRSPs, TFSAs, RRIFs, etc.).

Government Access to Records

The IRS has been successful in issuing an Order compelling one of the world’s largest bitcoin virtual currency exchanges, Coinbase, to disclose certain transaction and user information for the 2013-2015 period.  It is very possible that the CRA may obtain such types of information as well.

Consider the tax implications (income tax and GST/HST) when investing or conducting business using digital currency.

 


Reasonable Automobile Allowances: GST/HST Claim

A travel allowance paid to an employee for the use of their personal vehicle for business purposes will be non-taxable if it is reasonable.

Where such reasonable allowances are paid, an input tax credit (ITC) may be claimed by the employer. The ITC is computed as the imputed GST/HST in the allowance, without adjustment for the fact that some costs likely did not attract GST/HST. In non-harmonized provinces/territories (such as Alberta and B.C.), the ITC would be 5/105 of the allowance. The ITC in a harmonized province is different. For example, in Ontario, with 13% HST, the ITC would be 13/113 of the allowance. Other HST provinces would apply this formula to their respective rate.

In a November 10, 2017 Tax Court of Canada case, CRA denied ITCs of $4,935 related to motor vehicle allowances paid to employees that were also shareholders. CRA argued that the allowances were not reasonable.

Taxpayer wins

The allowances were based on the maximum per kilometre rates that the employer could deduct. The accounting for the allowances was complicated by the use of fuel cards provided and paid by the customer of the taxpayer. However, a detailed review of the accounting records demonstrated that:

  • detailed logbooks of business and personal driving had been maintained;
  • allowances were paid for business kilometres only, with careful tracking of personal use;
  • fuel paid by the corporate customer had been charged back to the taxpayer; and
  • the allowances paid to the shareholder-employee were effectively reduced by the customer’s fuel payments.

 

Although the accounting for the allowances was quite complicated, the Court concluded that it complied with the law and ensured the employees received reasonable allowances limited to business driving. The ITCs were, therefore, properly claimed.

If paying reasonable allowances to employees, consider claiming an input tax credit in respect of the payment.


Back into Blogging

Tax season ended a few weeks ago, and we’re catching up on everything, including social media! We hope to get back into blogging and tweeting more regularly soon.

We are also proud to announce that for a fourth consecutive year we were chosen Favourite Accountant by the readers of Burnabynow newspaper in the Best of Burnaby 2018 issue! Thank you again, Burnaby!

 


Commission Paid to a Corporation: Any Issues?

Consider the successful real estate or insurance agent, the financial product vendor, the area sales representative, or any other person earning commission income. One day they are asked, if they ever considered running their activities through a corporation as opposed to providing the services personally. There are definitely some valuable possibilities, but there are dangers too.

In a July 11, 2017 Technical Interpretation, CRA opined that whether a corporation is actually carrying on a business and earning commission income is a question of fact and requires more than a mere assignment of income.

CRA noted that “if insurance agents, realtors, mutual fund salespersons, or other professionals are legallyprecluded from assigning their commissions to a corporation, then the commission income must be reported by the individuals, and cannot be reported through a corporation, regardless of the documentation provided”.  Care must be taken to document that it is truly the corporation providing the services and not just an individual. Commission contracts identifying the corporation as the service provider rather than simply the individual would be valuable.

While some professionals earning commission income are legally prohibited from incorporating (due to the provincial/ territorial laws), others may be practically precluded from doing so due to, for example, a refusal by customers or key suppliers to contract with a corporation.

If a corporation does earn commission income, one must ensure that the corporation would not be considered a personal services business (PSB). A PSB is essentially an individual acting as an employee for a third party, but for the presence of their own personal corporation as an intermediary. For example, consider John, an employee of a car manufacturer (CarCo). If John set up a new corporation, had CarCo pay his corporation, but kept on doing the same things under the same terms and conditions as his previous employment contract, he would likely be conducting a PSB. If classified as a PSB, the worker and their corporation could be subject to substantially higher taxes, plus the denial of several types of deductions.

Take care when incorporating a business to earn employment-like commissions. Talk to an advisor to determine if it is right for you.