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Crypto gains can come with a hefty — and unexpected — tax bill

It’s not as straightforward as buying some stock’ says cryptocurrency tax expert Mehran Sedigh

The potential for big returns has been drawing more and more Canadians into cryptocurrency markets in recent years, but for some cashing in has come with a hefty — and unexpected — tax bill attached.

“It’s not as straightforward as buying some stock,” said Mehran Sedigh, a cryptocurrency tax expert at Toronto-based accounting agency Triple M Professional Corp. who has worked with a number of clients audited by the Canada Revenue Agency (CRA) because their crypto earnings were misfiled.

“One part that (clients) struggle with is how we calculate the gains and losses,” he said.

The CRA generally treats cryptocurrencies as a commodity in the Income Tax Act, according to the agency’s website. Depending on the filer’s case, income gained from crypto transactions are either categorized as capital gains or business income.

This distinction, Sedigh says, leaves many of his clients scratching their heads.

To qualify as business income, a filer generally has to carry on their day-to-day trading in a commercially viable way.

In cases of capital gains, selling a crypto asset where a profit was realized would result in half of the gains being taxable.

But those gains and losses aren’t only triggered in normal trading scenarios — taxes must also be taken into account when a cryptocurrency is exchanged for goods or services or for another cryptocurrency, situations that the CRA considers barter transactions, all of which must take into account the market value of the asset.

“Anytime you get rid of a specific type of cryptocurrency, that’s considered a taxable event,” said Sedigh, adding that this is the case for crypto-to-fiat trades and crypto-to-crypto trades.

“It’s taxed on the amount the cryptocurrency has grown in value, from the time you purchased it, to the time you get rid of it,” he said.

As a example, he cited a scenario in which an individual bought one bitcoin at $20,000 and exchange it for Ethereum one year later, when bitcoin was worth $50,000.

“That’s a $30,000 profit that you have that you have to be taxed on,” Sedigh said.

It’s the same concept for using that crypto to buy a product, for example: a car.

“You bought the bitcoin at $20,000. A year down the line, you get that bitcoin and buy a car. That day that you give the bitcoin, bitcoin is worth $50,000. That’s a $30,000 profit, you’ve got to pay tax,” he said.

Some crypto investors in the United States have tried to find creative ways to use tax laws to their advantage, including wash trading to lock in losses to offset future gains.

According to U.S.-based crypto tax accounting firm TokenTax, the Internal Revenue Service (IRS) categorizes crypto as a property instead of a security, meaning it’s not treated the same way as stock and securities. The IRS prohibits loss deductions for stocks in wash sales, but it is possible to sell a cryptocurrency and buy it back within 30 days and still capture a loss.

TokenTax’s website added that given the constantly evolving nature of the crypto space, it’s quite possible that the tax rules will change as well.

Sedigh said there is no clear published guidance on this rule in Canada, but cryptocurrencies broadly follow the same path as stocks and securities when it comes to the superficial loss rule.

“The same superficial loss does apply to crypto as well, based on our professional judgment and what we’ve seen in terms of Revenue Canada rulings,” Sedigh said.

On the business side, mining operations, trading platforms, exchanges and ATMs, would all file their taxes as business income, but the interpretation might depend on just what a company does.

Crypt mining companies could also be treated as manufacturing companies given that they create currencies through their mining process.

“The proceeds of the asset (in mining companies) are considered … their manufacturing proceeds,” Sedigh said. “And then eventually, when they decide to sell it in the open market, that’s just basically the selling of inventory.”

Another challenge for many crypto filers is keeping track of all of the necessary paperwork.

“Something that happens often is that a lot of people don’t keep track and exchanges kind of go belly-up, they close their doors, or they don’t really give a full report,” Sedigh warned. “The key here for clients is to keep track of all of their trades as they happen on a monthly basis. Keep a catalogue.”

The onus of proving how much a filer paid for crypto assets is on the filer, even without a paper trail.

“If you’re not able to prove that, then what happens is that, technically Revenue Canada has the right to assume you bought it for zero dollars,” Sedigh said.

Source: Financial Post