David Lingham, Boodle Hatfield
On 7 September 2021 El Salvador became the first jurisdiction to adopt Bitcoin as legal tender.
However, HMRC does not consider cryptoassets to be currency or money for the purposes of UK taxation (Cryptoassets Manual, CRYPTO22550).
On its view, the specific limitations on the scope of capital gains tax in s.251(1) and 269 TCGA 1992 do not apply in the case of cryptoassets.
Nor, on this view, would income arising from the lending of cryptoassets be interest, as it would not be a payment for the use of money.
Gains realised by UK-resident individuals on the disposal of cryptoassets held as investments will generally fall within the potential scope of capital gains tax.
This is because it is unlikely that ordinary individuals will deal in cryptoassets with sufficient frequency and business purpose to cause their profits to be taxed as income.
In determining whether such profits are indeed income, the courts may be expected to apply the principles laid down in case law concerning individual dealers in securities.
When we turn to the territorial scope of UK taxation, HMRC's views on cryptoassets become more difficult to accept. Where a disposal of a cryptoasset is by a foreign domiciliary, it may be important to know the situs of the asset.
This is because such an individual can claim the remittance basis in respect of foreign chargeable gains, i.e. gains on the disposal of assets which are situated outside the UK for the purposes of capital gains tax.
HMRC accept that, where a cryptoasset is simply a digital representation of an underlying asset, the situs of the cryptoasset for the purposes of capital gains tax will be the situs of the underlying asset (CRYTPO22600).
This view is consistent with the statutory rule in s.275(1)(b) TCGA 1992. However, the majority of cryptoassets do not represent an underlying asset. (All references below to cryptoassets are to those within that majority.)
HMRC's view (set out at CRYTPO22600) is that, for the purposes of capital gains tax, the situs of a cryptoasset: falls outside the statutory provisions; is determined by the common law rules; under those rules, is where the beneficial owner resides; and is in the UK if the beneficial owner is UK-resident under the statutory residence test.
It is not clear that any of these views are correct. First, it is arguable from the wording of s.275A(1) TCGA 1992 that the statutory situs rules were intended to be exhaustive in the case of intangible assets. If that is correct, the situs of a cryptoasset would not appear to be the UK unless any right or interest which comprises or forms part of the asset is governed by or enforceable under the law of any part of the UK. In practice, it is unlikely that any such right or interest would be governed by or enforceable under UK law.
However, supposing that HMRC is correct in applying the common law rules, the situs of a cryptoasset ought to be determined by the residency not of its beneficial owner, but of the person who has control of and is able to deal in the cryptoasset.
This would appear to be the participant in the relevant system who holds, for example, the key to the cryptoasset. Support for this view may be found in comments made by Judge Pelling QC in Fetch.ai Limited & Anor v Persons Unknown [2021] EWHC 2254.
Finally, there does not appear to be any reason why the statutory residence test should be relevant. Rather, the residency of the relevant person should be determined under the common law.
If HMRC is correct in its views, no advantage can be taken of the remittance basis by a UK-resident foreign domiciliary who disposes of a cryptoasset. This is because a gain on that disposal will (on HMRC's view) not be a foreign chargeable gain but, rather, a gain on the disposal of a UK-situs asset.
Further, it is likely that, where a UK-resident beneficial owner of cryptoassets generates income from those assets, for example by "staking" the assets (on which see HMRC's views at CRYPTO10300), HMRC will regard the income as having its source in the UK and so ineligible for the remittance basis.
For the purposes of inheritance tax, HMRC say that, where situs is not determined by a double tax treaty under s.158 IHTA 1984, it is determined by common law (CRYPTO22600). If that is taken to mean that situs is in the UK if the beneficial owner is UK-resident under the statutory residence test, then all cryptoassets owned by UK-resident foreign domiciliaries fall within the scope of inheritance tax on death and in relation to lifetime gifts, subject to the usual exemptions and reliefs.
Cases of non-compliance involving cryptoassets may need to be regularised. In that context, HMRC's views on the situs of cryptoassets may have the surprising effect of protecting UK-resident taxpayers from the penal rules for offshore non-compliance, on the basis that the assets are situated in the UK.