What is cryptocurrency?

It’s digital money, it’s not physical and there are no coins or notes and its turning out to be a big deal.

During the last year the price of the most popular cryptocurrency…Bitcoin has fluctuated but currently sits at roughly £10,000, which, if you bought some in the early days know means that the value of your Bitcoin holdCryptocurrencying will be significant.

As you can imagine, the problem with an all-digital currency is, it’s potentially a nightmare to manage.  Hence, from the creator of bitcoin, a mysterious figure going by the pseudonym, Satoshi Nakamoto, came blockchain, thought of in many circles as the next evolution of financial tech.

In basic terms, the blockchain is a public ledger where all cryptocurrency transactions are recorded and confirmed anonymously. Records are permanent, and cannot be altered.  Given that bitcoin is pure data, you transfer value to someone else by creating a record in what’s known as a block that is time stamped, and inextricably linked to the preceding block, thus creating a chain. Hence, blockchain.

The reason the blockchain is so secure is because, rather than existing on a single storage source, it is spread across nodes in a distributed system; ever changing computers or servers that host a copy of the entire record. There is no central point. Distributing access and copies of the blockchain means that downtime can’t happen.

What’s a distributed system?

Well, rather than hosting a program on a single computer, copies are hosted on a number of computers that synchronise with each other, and only host the file for an amount of time. Having the program spread in this way means that there is no central point of attack for anything malicious.

The fact that it’s transparent, continually updated by countless users, and decentralised, means that it’s considered by many as almost impossible to corrupt. Hacking the blockchain would mean overpowering every computer currently contributing to the network. It’d be like trying to take on the entire internet.

Is cryptocurrency taxable?

HMRC has not introduced any new legislation that relates specifically to cryptocurrencies as it presumably believes that the existing legislation is sufficient to impose any necessary tax.

By far the most popular cryptocurrency is the bitcoin, however there are approximately 1,000 such currencies with others, such as ethereum and litecoins, becoming increasingly popular.

Mining CryptocurrencyIndividuals can obtain cryptocurrencies such as bitcoins in two ways.  One is via ‘mining’, which is a system that allows computer users to calculate complex algorithms required to verify each transaction in the blockchain and be rewarded with bitcoins.

The second way is to use a bitcoin exchange to purchase bitcoins with a real world currency such a sterling.

If someone is mining bitcoins then I believe HMRC regards this as a trade and will charge any profits to income tax and national insurance. Income and expenses would need to be calculated in sterling each year with the profits reported to HMRC and tax duly paid. Any expenses claimed would need to relate solely and specifically to the trade of mining.

If the bitcoins have been purchased, I believe HMRC will regard any increase in value as being liable to capital gains tax.  Tax will only crystallise when the bitcoins are converted into another currency, be it sterling or dollars or even another cryptocurrency.  Capital gains tax is currently charged at 10% or 20% (or a mixture) depending on the level of the taxpayer’s other income.

Therefore if you purchased 1,000 bitcoin in the early days when valued at say £5, as the seller you would be liable to capital gains tax on the gain arising. As the current price of a bitcoin is approximately £11,000 that would lead to a capital gain of £9,995,000 (£10,000,000 less £5,000) which after a capital gains tax exemption of £11,300 leaves a tax liability for a higher or additional rate taxpayer of £1,999,000.

Any tax liabilities relating to either mining or investing in virtual currencies which arose in the year to 5 April 2017 needs to be reported to HMRC with any tax paid by 31 January 2018.

Remember, just because cryptocurrencies are unregulated does not mean they are not taxable.  Regulation is likely to come in to place very soon with the government currently negotiating amendments to the 4th Anti-Money Laundering Directive.

There are lots of differing opinions on this point at present, as the current legislation pre-dates cryptocurrency.  Hopefully HMRC will clarify their position on the matter soon.

Thanks for reading