Crypto trading – when are you in business?
Individuals and entities engaged in the business of dealing or trading in cryptoassets (crypto) are required to pay income tax on their trading profits. This is because, under section CB 1 of the Income Tax Act 2007, any income derived from a business is taxable – unless it is of a capital nature. The upside for traders is that the cost of acquiring crypto can generally be deducted when calculating taxable income.
The Inland Revenue (IRD) guidance for crypto trading outlines several factors used to determine whether someone is in the business of trading crypto, including:
- frequency of transactions
- how much time and effort is devoted to buying, selling or exchanging crypto
- the underlying purpose for transactions
- whether activity is organised and systematic
- how long the crypto is held
- the amount invested.
If you frequently trade, actively manage your portfolio, and do so on a sustained basis, the IRD is likely to consider you a trader. In contrast, if you have a full-time job and trade crypto only occasionally in your spare time, you’re less likely to meet the threshold for being classified as a trader.
The trading stock rules will generally apply. These require that the property that a taxpayer has for the purpose of selling or exchanging in the ordinary course of their business be valued at the end of each tax year. While it is possible to hold some crypto outside of trading stock, you’ll need clear, documented evidence to prove that crypto sold was not part of your trading activity at both the point of purchase and sale.
Crypto held as trading stock are valued at cost and are treated at the end of the tax year and are excepted financial arrangements for tax purposes
Crypto schemes and taxable intent
Another potential tax trigger arises where the acquisition of crypto is part of a broader profit-making scheme or undertaking. In such cases, income tax may apply under section CB 3 of the Income Tax Act 2007 which relies on a dominant purpose test. Section CB 3 states: “An amount that a person derives from carrying on or carrying out an undertaking or scheme entered into or devised for the purpose of making a profit is income of the person.”
According to the IRD guidance, an activity may constitute a profit-making scheme if:
- there is a coherent plan of action (a scheme)
- the plan was entered into with the purpose of making a profit.
There is no requirement for the plan to be formalised or precisely detailed, a general plan or strategy is sufficient. While isolated or one-off transactions are less likely to fall within the scope of section CB 3, any gain from such a transaction may still be taxable under section CB 4 if the asset was acquired with the purpose of resale.
Mining
As the value of cryptocurrencies increases, so too does the incentive to engage in mining. Some bitcoin mining operations, such as this one based in Iceland, have grown to an immense scale.
The IRD takes the view that, in most cases, mining activities (whether conducted individually or through a mining pool) are carried out as business activities or with the intention of generating a profit. This means that any mining income, such as block rewards or transaction fees, is likely to be taxable. Likewise, any profits or losses realised from the sale of mined crypto are generally treated as assessable or deductible income.
On the expense side, costs associated with mining, such as electricity, hardware repairs, and maintenance, are typically deductible revenue expenses. Capital costs, such as the purchase of mining equipment (for example, Antminer S19 Pro ASIC rig), can usually be depreciated over time, with depreciation claimed as a deductible expense for tax purposes.
Staking
If you earn staking rewards through a staking as a service provider (i.e. a third party that undertakes the staking for you), this activity may be classified as a profit-making scheme, making the rewards taxable income. Similarly, if your primary intention in staking was to sell or dispose of the rewards after receiving them, those rewards are also likely to be treated as taxable.
Remuneration
The IRD has issued several public binding rulings addressing the tax treatment of crypto-assets provided to employees. According to the IRD, where an employee receives part of their regular remuneration in certain types of cryptocurrency, that payment is subject to PAYE. Also, crypto received as a bonus or incentive is considered remuneration and subject to PAYE.
However, not all crypto payments will fall under PAYE. For crypto to be treated as salary or wages, it must closely resemble traditional remuneration. In the Inland Revenue Commissioner’s view, this applies when crypto:
- is not subject to a ‘lock-up’ period
- is readily tradable (i.e. is liquid)
- can be directly converted into fiat currency via an exchange, and either:
- has a primary purpose of functioning like a currency, or
- its value is pegged to one or more fiat currencies.
Where these conditions are not met, the crypto provided is not treated as salary or wages but instead classified as a fringe benefit, and the fringe benefit tax rules will apply.
The IRD has explicitly identified stablecoins such as NZDS and USDT as convertible and “salary-equivalent,” meaning they are generally subject to PAYE when used for employee compensation.
In addition, the IRD has issued specific guidance for situations where businesses issue crypto to employees in connection with their employment under conditional arrangements, such as through an initial coin offering, initial exchange offering, or where the employee only becomes entitled to the crypto after a future condition is met – for example, continued employment or expiry of a holding period. In such cases, fringe benefit tax rules will apply instead of PAYE.
GST and the crypto exclusion
Most crypto-assets are formally excluded from GST and financial arrangement rules.
Cryptocurrencies are not subject to GST when bought or sold. However, services associated with crypto, such as mining, consulting, or advisory work, remain within the scope of GST. If crypto are received as payment for goods or services provided during regular business activities, GST will apply to the value of that payment.
Staking and mining continue to be treated as business income when carried out in a systematic and organised manner. The IRD has also clarified that even passive staking through DeFi protocols may, in certain circumstances, be classified as business income.
If you receive cryptocurrency as payment for goods or services, whether as an individual or a business, you are required to pay income tax on the New Zealand dollar equivalent of the crypto received, based on its market value at the time of the transaction.
For businesses involved in creating or selling NFTs, income from such sales is taxable. In addition, GST may apply where the NFTs are sold to New Zealand-based buyers. If NFTs are sold to someone outside New Zealand the supply will be zero rated for GST purposes. Similarly, royalties received on sales of NFTs are zero rated for GST. An obvious challenge for market participants, acknowledged in the IRD’s guidance, is with blockchain technology, it can be difficult determining the location of the purchaser of the NFTs.
The New Zealand Law Society has expressed support for the IRD’s intention to provide more certainty around taxation of crypto.
Tax treatment of airdrops and forks
Airdrops involve the distribution of crypto at no cost to the recipient. A fork, or chain split, occurs when a blockchain protocol changes, resulting in a new version of the blockchain running alongside the original. A well-known example is the creation of bitcoin cash (BCH) from bitcoin (BTC). Like an airdrop, where a hard fork occurs, the holder receives an equivalent value of new crypto for no cost.
The IRD has closely examined the tax implications of both airdrops and forks. As with most crypto-related tax matters, whether the proceeds from the disposal of these assets are taxable depends on the specific circumstances.
Under section CB 4 of the Income Tax Act, the IRD’s view is that crypto received from a hard fork generally inherits the purpose of the original asset. It is likely the IRD will look at the dominant purpose of the acquisition of the original asset and consider that the intention applies to both. For example, if crypto is acquired with the belief that an airdrop will be obtained and the purpose is to retain the airdrop, this needs to be clearly documented else the IRD will presume the intention was to sell both. Often, the recipient has taken deliberate steps to acquire the asset, which supports the view that the asset was acquired with purpose.
If the recipient’s dominant purpose in receiving the airdropped crypto was to sell it, then any gain is likely to be treated as taxable income. Since there was no cost involved in acquiring the asset, deductions are generally not available for its acquisition.
Every taxpayer’s situation is unique. If you’re uncertain about your obligations, how the rules apply to you or are concerned you have a tax liability, it’s best to seek specific expert advice.
- Read more about navigating the ecosystem of digital technology and commerce (Web3 & Digital Assets – Lane Neave Lawyers) or contact Partner James Cochrane.
Disclaimer
The information provided above is for general information purposes only. It does not, nor is it intended to, constitute legal, financial, accounting, tax or other professional advice, and should not be relied upon as such. This information is subject to change without notice. All liability is disclaimed.
