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The government has launched a consultation to consider giving HMRC more powers to recover unpaid tax on crypto transactions directly from digital wallets.
Max Austin, Reporter, Accountancy Daily
HMRC is considering options to modify the tax treatment of crypto assets used in decentralised finance (DeFi) lending and staking transactions.
Under the proposed changes, the use of crypto assets in DeFi transactions would no longer be treated as giving rise to a disposal for tax purposes, which usually triggers a capital gains tax (CGT).
Instead, CGT would apply when the crypto assets are disposed of in a non-DeFi transaction – however, they must meet certain criteria to be considered.
For example, it should involve the initial transfer of crypto assets from a lender to a borrower, or through a smart contract, with the borrower being obligated to return the tokens.
The lender should also have the right to withdraw the same amount of tokens that were initially lent or staked.
Simplifying the administrative process was the main objective as well as reducing costs for taxpayers participating in DeFi while also exploring how the tax treatment could better reflect the economic substance of these transactions.
Following the consultation, HMRC plans to extend its powers in taking control of goods to those with no UK assets or no assets at a principal place.
Gary Ashford, deputy president of the Chartered Institute of Taxation (CIOT), said: ‘The taxation of crypto assets is a real headache for the government, with issues around both the clarity of the rules and low levels of awareness among taxpayers about their obligations. So, it is encouraging to read these proposals.
They are in line with what we have been calling for which is for crypto assets to be recognised as unique, requiring a specific and clear set of legislation for their taxation. Of the three options originally put forward in the government’s 2022 consultation, option two (to produce new legislation for De-Fi transactions) offers the best chance of clarification and ease of administration in compliance.
The first option (to treat crypto assets akin to shares within the ‘repo and stock’ rules) and third (to apply a no-gain/no-loss treatment to De-Fi transactions), whilst helping remove the anomaly of charging CGT for effective non-disposals, would do nothing to help asset holders and their agents with the reporting requirements – which can be very difficult given the number of transactions involved.’
DeFi uses blockchain technology to enable decentralised finance applications. It allows users to access financial services without a central authority or intermediary such as brokerages, exchanges, or banks. This allows users to access loans, insurance, and investments securely.
The DeFi market is continuing to evolve, and new transaction models and products may emerge. This creates a challenge for the targeting of any new legislation covering the taxation of DeFi lending and staking.
Through the consultation, the proposed tax framework could treat all DeFi returns as being revenue in nature and charged to a new miscellaneous income charge specific for crypto asset transactions.
Dawn Register, head of tax dispute resolution at BDO said: ‘While HMRC seeks to help taxpayers who are struggling financially by offering Time to Pay arrangements, new tax debt is running 50% higher than pre-pandemic levels and needs to be reduced.
It is clear that the government believes the tax authority needs further powers to tackle the hardcore of non-paying businesses that aren’t playing by the rules and who put up taxes for the rest of us. However, the practical challenges of using any new powers will be the real test for HMRC, including digital businesses located offshore.’
The consultation will close for comment on 22 June 2023.
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