With digital currencies in the spotlight again this year, it’s vital to know the tax-time options.
Help! My client has received an ATO letter about crypto trading
The ATO sent thousands of letters to crypto investors in 2020-21 warning that it was on the lookout for anyone making money from digital currencies and it wanted its cut.
With crypto a priority for the ATO again in 2022, similar letters are likely to be sent to crypto investors this tax season. What should you do to help your clients manage crypto in their tax returns this financial year? How should clients navigate the aftermath of recent crypto volatility and losses?
How is crypto taxed in Australia?
How your client is taxed depends on the intention of the transactions made during the financial year and whether your client is carrying on a business. Where an individual is carrying on a business, cryptocurrencies are treated as trading stock and subject to income tax.
However, the ATO generally treats crypto assets as property for tax purposes. Australian crypto investors typically face CGT on their crypto investments and income tax where additional income is derived from mining, staking and interest payments.
Any time crypto is sold, transferred, gifted or even spent the ATO sees this as disposing of a capital asset in a similar way to shares or property. With crypto, investors will make a capital gain or capital loss when disposing of this asset class. This can be calculated by subtracting the cost basis from the price on the day a crypto asset was disposed of.
Crypto’s rapid growth in portfolios
While crypto has historically been seen as a speculative investment, an early 2022 Roy Morgan survey found that over 1 million Australians own at least one type of cryptocurrency. With an average investment value of more than $20,000, crypto as an investment class has become increasingly legitimised over the past few years.
Interestingly, older Australians aged 50-plus have the largest average investment by value, with their average holdings exceeding $56,000. With billions of dollars now held in crypto investments, it presents a growing opportunity within the accounting and taxation world over the coming years.
However, with volatility rife across crypto markets in the past few months, investors may be looking for additional guidance this financial year, with capital losses likely for crypto participants who bought at the top of the cycle. So what happened, and what can investors with large losses do to position themselves going into tax season?
What brought crypto tumbling down?
After top cryptocurrencies bitcoin and ethereum led the market to fresh record highs in late 2021, both assets fell over 60 per cent in the six months following. In fact, both crypto and traditional financial markets were dipping thanks to factors such as the Russia-Ukraine war, heightened inflationary pressures and increased rates from central banks globally. However, a crisis within the crypto world was already brewing.
Terra LUNA, formerly a top 10 cryptocurrency worth over $50 billion, saw its total market capitalisation crater by over 99 per cent within a week, driven by relentless selling of the ecosystem’s “stablecoin”, UST.
Normally pegged at a value of US$1, stablecoins within the crypto space are backed 1:1 by US dollars (or dollar equivalents) in bank accounts. Examples include USDC (circle), USDT (tether), and GUSD (gemini). However, UST was an algorithmic stablecoin where the backing was derived from holding other cryptocurrencies, rather than being backed by US dollar equivalents.
During the first week of May, the LUNA ecosystem experienced a death spiral across both tokens, with the UST stablecoin depegging from US$1 and falling to as low as $0.03, while the better known token LUNA crumbled from April highs of $86 to lows under $0.0001.
These large falls spilled over to other crypto assets, pulling prices down even further, with investors panic-selling and many traders liquidated.
Tax implications of the big fall
Understandably, this recent fall has left many crypto investors concerned and facing decisions on their portfolios, and it is important that crypto investors seek proper financial or taxation advice.
Loss-harvesting strategies may be effective when investors have realised a capital loss (i.e., sold at a loss), as these losses may be offset against future gains on other CGT assets. Tax-loss harvesting is an investment strategy that helps reduce net capital gains by offsetting crypto losses against capital gains on other assets. Any losses you don’t use in a given tax year can be carried-forward to future tax years to offset against later gains. However, you must use any losses at the earliest opportunity.
The ATO has stressed in recent guidance the importance of keeping proper records of all crypto transactions for tax time. While this can be complicated and messy, there are plenty of helpful tools to help with this process. Crypto-tracking tools like Koinly allow investors or their accountants to quickly and easily import all transactions from the past financial year, streamlining the hours this might take if done manually.
Crypto as an ongoing asset class
As cryptocurrencies grow as an asset class in the future, it is crucial that crypto investors know their obligations at tax time. Crypto assets are bought and sold across various exchanges, so tracking where holdings sit at any point in time is essential. In addition, wider adoption of other crypto assets such as NFTs means it can be easy to miss capital gains or capital losses beyond only crypto-token gains and losses.
Crypto investors are also tasked with keeping track of any airdrops, interest payments or staking rewards they may have received over the past financial year, as these are generally classified as income.
On the other hand, crypto mining is still a particular grey area that is treated differently if an individual mines crypto as a personal hobby or on a commercial basis.
Danny Talwar is head of tax at crypto software specialist Koinly.