Written by Matthew Peters and Martin A.U. Sorensen
Are you considering accepting cryptocurrencies (e.g., Bitcoin, Litecoin) from your customers as payment in lieu of traditional government-issued currency? If so, you are not alone. Numerous businesses in a wide range of industries are currently implementing systems to accommodate such transactions. The reasons for doing so are varied, whether it be getting in on the ground floor of a potentially revolutionary shift in accepted international commerce, remaining competitive with peers, or simply taking advantage of the groundswell of investor enthusiasm regarding anything remotely associated with Bitcoin or blockchain technology. Whatever the reason in your particular circumstances, it is critical at an early stage to appreciate and manage the relevant Canadian income and sales tax obligations associated with processing cryptocurrency transactions, which vary considerably from the standard model of dealing with cash.
This discussion is directed at businesses that desire to evolve their existing payment processing system to accept “widespread” cryptocurrencies (e.g., Bitcoin). This is to be contrasted with businesses that seek to create and issue their own brand of custom cryptocurrency or “tokens” that are redeemable for goods, services or other rights to be delivered over the business’ platform. Such business models raise unique tax and non-tax issues that warrant special consideration.
For a summary of certain tax considerations relevant to the person that is using the cryptocurrency as a method of payment, and other fundamental concepts relating to the holding and disposition of cryptocurrency, see our last post Getting In on Bitcoin: Canadian Income Tax Implications of Cryptocurrencies.
Accepting a Cryptocurrency is a “Barter Transaction” for Canadian Income Tax Purposes
The word “barter” typically conjures images of exchanging one tangible good for another, e.g., a loaf of bread for a pound of butter. As antiquated as it may sound, this is the precise viewpoint that a provider of goods or services must adopt for Canadian income tax purposes when agreeing to accept a cryptocurrency.
The Canada Revenue Agency (CRA) currently takes the position that, despite its nomenclature, a cryptocurrency is not a currency but is rather akin to a commodity (albeit an intangible, “virtual” thing), the value of which will fluctuate based on external factors that are driven largely by investor sentiment and basic supply/demand. In other words, think of cryptocurrency as being the virtual equivalent of a precious metal such as gold or silver. A person can accept such commodity in exchange for the provision of a good or service, but the treatment is not the same for Canadian income tax purposes as compared to the receipt of government-issued currency.
In a barter transaction using cryptocurrency, the following will need to be considered by the provider of the goods/services based on the CRA’s most recent published administrative position:
- The provider will generally realize business income for Canadian income tax purposes equal to the fair market value of the goods/services provided (Business Income Inclusion). For this purpose (but not for other purposes—see, e.g., the sales tax implications described below), the value of the cryptocurrency at the time of the exchange is generally not the determining factor.
- The provider will generally acquire the cryptocurrency with a cost for Canadian income tax purposes equal to the Business Income Inclusion.
- The provider is now the owner of the cryptocurrency and must (eventually) do something with it, such as sell it to an investor or use it to purchase goods/services in connection with its own business. Any gain or loss realized by the provider on an eventual disposition of the cryptocurrency (i.e., the difference between the provider’s cost in the cryptocurrency, and the amount received on the eventual disposition) will be taxable at such time to the provider. The issue then becomes whether such gain/loss is treated as being on full income account or on account of capital (the income tax treatment being materially different as between the two). Whether a cryptocurrency is held on income or capital account is generally a question of fact and must be reviewed on a case by case basis. Managing the provider's exposure to fluctuations in the value of the cryptocurrency post-acquisition will like be a material and practical concern.
Consider a situation where Xco is in the business of selling computer software packages for $1,000.Under current CRA policy, if Xco agrees to accept one Bitcoin in exchange for the software package, Xco will generally realize business income in connection with the sale of $1,000 and will acquire the Bitcoin at a tax cost of $1,000. If Xco subsequently sells the Bitcoin for $3,000, Xco will realize a gain of $2,000 at that time (which will be taxable either at full income tax rates or at capital gains rates, depending on whether Xco holds the Bitcoin on income or capital account). Notice that the value of the Bitcoin at the time Xco initially sold the software and acquired the Bitcoin is not the determining factor for these purposes based on the CRA’s general published administrative position regarding barter transactions.
Canadian Sales Tax is Based on Value of the Cryptocurrency
As with any provision of goods or services that is subject to federal and provincial sales taxes, a provider of goods/services that accepts cryptocurrency in lieu of government-issued currency must charge, collect and remit the appropriate amount of sales tax. This may prove to be easier said than done in the context of cryptocurrency.
In this respect, the provider must be extremely careful not to use the Business Income Inclusion amount (which is relevant under the CRA's current administrative policy for purposes of determining the provider’s income tax associated with the sale) in determining the amount of sales tax to charge. For federal goods and services tax (GST) purposes, the CRA requires that the provider charge, collect and remit GST based on the value of the cryptocurrency at the time of the sale.
Using the example above, assume that Xco sold a computer software package having a retail value of $1,000 and accepted one Bitcoin in full payment of the purchase price. If the one Bitcoin had a value of $1,400 at the time of sale, the provider would be required to charge GST to the purchaser based on the $1,400 value of the Bitcoin as opposed to the $1,000 value of the software.
Presumably, the purchaser would be entitled to claim an input tax credit (if available) in respect of the full amount of the GST charged.
While this may sound manageable at a high level, a few practical issues arise for the provider:
- How does the provider determine the value of the cryptocurrency at the precise moment of sale, particularly when cryptocurrencies are traded in non-traditional marketplaces and the value can swing wildly from day-to-day (possibly minute-by-minute)? What record-keeping is required by the service provider to justify the amount upon which it charged sales tax?
- How does the provider charge, collect and remit the applicable sales tax in a transaction that is entirely handled in cryptocurrency, namely where the sales tax portion is also paid in cryptocurrency? The provider will need to remit to the CRA in Canadian currency (not cryptocurrency), meaning that the provider will be forced to either remit an equivalent amount of cash from other sources or sell a sufficient amount of the cryptocurrency to generate the necessary cash to satisfy the remittance. Given the volatility of most cryptocurrencies where values can swing by double digits on a daily basis, there is an inherent risk borne by the provider in collecting the sales tax in cryptocurrency.
Corporate directors are personally liable for any deficiencies in collecting or remitting sales tax. It is therefore critical for the provider of good/services to take reasonable measures to ensure full compliance and mitigate any associated risk.
There is an emerging cottage industry of services providers focused on assisting businesses deal with the practical issues that come along with accepting cryptocurrency as a form of payment. Whether or not you chose to deal with a third-party service provider, it will be critical to discuss your intended processes and back-office functions with your legal and tax advisors.
Accepting a cryptocurrency in exchange for goods or services is not currently regarded by the CRA as being analogous to the acceptance of Canadian or foreign currency. You will likely be considered to be bartering for a commodity. Be aware that this will bring you into a unique income and sale tax landscape requiring the adoption of different reporting and compliance procedures. Talk to your legal, tax and accounting advisors as soon as possible before jumping feet first into the cryptocurrency/blockchain (r)evolution.
There is little or no case law on most of the issues raised above and the CRA could change or reverse its administration position at any time. In this respect, should the CRA’s administrative position evolve to treat cryptocurrencies in any given situation as a “currency”, a security, personal property, a “tax nothing” or otherwise, several fundamental aspects of the associated income and sales tax implications will likely change. Holders of cryptocurrency, and businesses that intend to process payments using cryptocurrency, must keep up-to-date in this quickly changing environment.
Special thanks to articling student Rehman Mir for his assistance with preparing this article.