While cryptocurrency investing in general confuses a lot of people, the one area of this type of investing that is quite challenging for a lot of Canadian investors to understand is the crypto tax. Some people wonder whether they should declare their cryptocurrency income to the government for taxation and if they should, how should they declare it and how much tax should they pay? Today, we are going to take a deeper look at the crypto tax in Canada so investors can understand what is expected of them should they decide to invest.
How the Canadian Government Understands Cryptocurrencies
Before we go into taxation, we need to first understand how the government views cryptocurrencies. According to the Canadian government, cryptocurrencies are a “digital representation of value” and not a legal tender. The government understands that cryptocurrencies can be exchanged for goods and services between parties that agree to the value of the cryptocurrencies as well as the goods and services being exchanged. The government refers to this as barter trading, or bartering.
In the barter system, anything can be exchanged for something else as long as both parties agree to the value of what is being exchanged and that the exchange does not involve fiat cash or legal tender.
The government has no control of how cryptocurrencies are created, traded or exchanged, and they are not controlled or regulated by the central government or any other government body. However, there are tax implications and requirements surrounding cryptocurrencies that Canadian investors should understand.
Declaring Cryptocurrency Income: Income
For tax purposes, cryptocurrency income can be declared as income or capital gains. Things can get confusing when you think about businesses and individuals, but we will get to that in a bit. Depending on how you obtained your cryptocurrency, you might have to declare it as income. Think about exchanging some Bitcoin for cinema tickets or for services rendered. You earn an income from these activities and this is a barter exchange between willing parties so there is income earned.
If you mine some cryptocurrency, you have to declare that as income. Mining requires sophisticated software and hardware to crack complicated math challenges. Once you crack the challenge and the result is accepted into a block, you are rewarded using cryptocurrency. Since this reward is for something you actually did, even if you did not obtain the Bitcoin from someone else, this is an income that must be declared as such.
Declaring Cryptocurrency Income: Capital Gains
Capital gains are described as increases in the value of an asset, and cryptocurrencies are deemed digital assets, regardless of how long you hold the asset for. Capital gains are taxed on all assets that can depreciate. When an asset depreciates, the negative capital gains are not used to reduce income for the sake of taxation but are used to offset capital gains for the current year or any of the preceding three years. This is presumably to stop people from carrying forward losses from years gone by to reduce their capital gains.
Income from cryptocurrencies is taxed at the prevailing local rate. This means that income tax for one province or territory is different to the one from another province or territory. Income crypto tax is charged at the same rate as other income taxes.
For capital gains, you pay crypto tax on half of your capital gains. This means the taxation for capital gains is a lot more lenient than the one for income. The taxable half is then charged at the prevailing rate according to where you live and operate.
Canadian crypto tax can get complicated, especially when you start thinking about how best to declare the cryptocurrency according to how you use it. You can learn more about cryptocurrency tax in Canada by reading the in-depth WealthSimple crypto tax guide. The guide explains everything you need to know including how to declare the tax as well as how to collect data for taxation purposes. WealthSimple has created investment tools to help you grow your wealth and make investing easier for you. Their WealthSimple Crypto tool is a fantastic option for those looking for a simple way to invest in crypto.
Business Income, Personal Income and Capital Gains
For individuals, any of the money they make from cryptocurrencies is considered business income in some cases and capital gains in a few cases. The Canadian Revenue Authority says that you are trading cryptocurrency as a business when you operate as a business (getting loans, hiring people, having a business plan, etc.); your activities are deemed to be done to make a profit; you promote any goods and services; and if you carry on in a commercial-like manner. Because some of these criteria are so vague, the government decides what is and what is not a business on a case-by-case basis.
Do note that there is no ambiguity when it comes to businesses that mine, trade or exchange crypto because these businesses are obviously set up to make money. However, these distinctions have to be made for individuals to determine whether they need to declare business income or capital gains.
Another important distinction is when the business starts. The Canadian government recognises that although you are planning to go into business, as long as you have not made a single transaction as a business, you are still not a business. This means that even when you receive funding or other assets to start the business but have not started, you are still not in business. However, any transactions done or any capital gains gotten during this period cannot be used as deductions for income tax purposes.
Calculating the Value of a Cryptocurrency Transaction
Because the value of a cryptocurrency can vary wildly, you need to use a reasonable method to calculate the value of a transaction. The Canadian Revenue Authority needs to see these calculations and methods used to determine this fair value when you declare income or capital gains for tax purposes.
There are several things that you must adhere to when deciding on this fair market value. First, the value must be declared in the highest dollar amount of the value of the assets being exchanged. Second, the buyer and the seller must be knowledgeable, informed and act independently of each other and must enter into this transaction willingly. Third, the conditions under which the transaction should be carried out should mirror those of a free, open and unrestricted market.
Lastly, the method chosen should be used consistently. If you get your values from one exchange, you need to use the values from these exchanges for all calculations. If you decide to use market averages of the five most active cryptocurrency exchanges, you need to use those values consistently.
Trading or Exchanging Two Cryptocurrencies
If you want to exchange one cryptocurrency for another, barter trade rules will apply. You will need to convert the value of the cryptocurrencies in question into Canadian dollars. If you want to exchange Bitcoin for Ethereum, for example, you will need the Canadian dollar value of the bitcoin at the time of purchase and their value at the time of the exchange. The value of the Ethereum does not matter because it is what the person doing the exchange ends up with. Once you have these two figures, subtract the final price from the initial price to get the capital gains or capital loss value.
Not Reporting Your Profits
Because of how complicated cryptocurrencies can be and how many ways there are to avoid declaring profits, the Canadian government has taken steps to follow anyone who is non-compliant. Cryptocurrency exchanges will usually require personal data when registering or trading cryptocurrencies.
The Canadian Revenue Authority can use this data as well as other data it has to find out if you are not declaring income or capital gains or taxation purposes. There are heavy penalties that come with non-compliance so it is always better to declare your income or capital gains than face the wrath of the government.
If you fail or forget to declare profits, you can rectify the matter by filing an amended tax return. Ensure you do this before the Canadian Revenue Authority catches up with you because if they do before you file the amended return, you will be treated as a non-compliant taxpayer. You should consult a licensed professional, especially one who understands cryptocurrency taxation, to ensure all steps are followed when filing the amended return. This is the best way to avoid any potential penalties.
Losses By Theft
Cryptocurrency theft is a serious issue and this is why many wonder if they can declare losses if their cryptocurrency is stolen. Yes, it is possible to declare these losses. However, you have to show that these risks are part of doing your business and the theft occurred regardless of the actions and measures a business or individual took to protect their assets.
Although it is impossible to look at all nuances that apply when dealing with cryptocurrencies and their taxation in Canada, this article gives a general guide for those who want to learn about crypto tax in Canada. Do consult a lawyer if you need specific advice about taxation or cryptocurrencies in general.