The tax treatment of digital currencies is a challenge for governments around the world, as it is for other aspects of the “disruptive” digital economy.
Last year, the ATO published several rulings outlining how bitcoin and similar cryptocurrencies should be treated under the Australian income tax and GST regimes.
The rulings provided useful clarity on bitcoin’s tax treatment, but the ATO’s approach received widespread criticism.
Bitcoin purportedly functions as money, but the ATO rulings treat bitcoin as a commodity for tax purposes. This disparity creates a number of tax inconsistencies.
The impact is particularly acute under the GST regime, where bitcoin transactions are taxed as barter transactions. Australia’s GST regime applies somewhat clumsily to barter transactions, which may cause double taxation, or at least double tax administration, as we emphasised in our submission.
Why should the law be changed?
Imposing 10% GST on bitcoin transactions increases the price of purchasing bitcoin from Australian vendors, affecting the commercial viability of operating a digital currency business in Australia, as we have highlighted before. Submissions to the inquiry outlined the potential benefits the industry could offer Australia, but many argued the GST treatment stood in the way of success.
From a regulatory perspective, supporting Australian digital currency intermediaries to establish an industry here is likely to make financial supervision and taxation easier for government.
The ATO’s characterisation of digital currencies as a commodity is probably the best interpretation of the current law, which emphasises wide use and sovereign backing for currencies. But it’s not clear cut. There is a legal basis to treat digital currencies as money based on their function as a medium of exchange, especially as this becomes more widespread.
Digital currency and GST
The Senate report identified the GST anomalies arising from the ATO’s characterisation of digital currencies and recommends the government amend the GST regime to treat digital currencies as money. This would promote fairness and neutrality in the taxation of both modern and traditional forms of money.
Adopting the report’s GST recommendation would bring Australia’s GST treatment in line with the UK, and some other EU nations. Last year, the UK changed its VAT laws (the UK’s GST) to exclude digital currencies from taxation as a commodity.
When the UK first introduced this approach, it was praised for supporting the local digital currency industry, although there is little empirical evidence at this early stage.
Digital currencies are also treated by the ATO as commodities for income tax. The evidence before the Committee, although limited, suggests most bitcoin holders are investors not traders.
The report did not recommend any alterations to the income tax treatment at this stage – and we agree that caution is needed before altering income tax treatment. The report recommended further research to determine whether change is needed.
The regulatory future of digital currencies
The Committee concluded that digital currencies fall outside the scope of many of Australia’s financial, banking, and consumer protection regulations. It recommended that Australia’s anti-terror and anti-money laundering regimes should be extended to ensure they encompass digital currency activity.
However, the report does relatively little to address the longer-term regulatory concerns surrounding digital currencies. At this early stage, the report proposes to allow the industry to self-regulate, with oversight from a proposed “Digital Economy Taskforce”, rather than introducing a specific regulatory framework.
The Committee accepted that extensive regulations might stifle the growth of the digital currency industry. Although digital currencies’ utility has been emphasised recently, their future remains uncertain. Bitcoin, the largest digital currency, has seen a steady, significant price decline over the past two years. Further, much of the industry’s innovation comes from small start-ups, which have relatively few resources to comply with regulations. Regulatory simplicity seems proportionate at this stage.
It will be interesting to see how effective the self-regulation approach is, particularly given digital currencies’ historic involvement in illicit activities and the regulatory concerns voiced by other governments and the OECD.
The combination of introducing a more favourable GST treatment, and a relatively simple regulatory framework will hopefully foster this nascent industry’s development. If the industry experiences any major growth in Australia, the greater number of users (and more tax dollars at stake) may heighten regulatory attention surrounding the technology.
Ultimately, the self regulatory approach and Digital Economy Taskforce is the beginning, not the end, of the government’s involvement in regulating and taxing this new technology.
Joel Emery is Consultant / Researcher at Australian National University.
Miranda Stewart is Professor and Director, Tax and Transfer Policy Institute, Crawford School of Public Policy at Australian National University.