CRYPTO ASSETS AND TAX LAW

1. Which laws, regulations and court cases exist dealing with crypto assets?

On the 1 st of November, 2018 the

Maltese Government published and enacted the Virtual Financial Assets Act (Chapter 590 to the Laws of Malta) and the Innovative Technology Arrangements and Services Act (ITAS) (Chapter 592). Subsequently, the Virtual Financial Assets (VFA) Regulations came into force through Subsidiary Legislation, Legal Notice 357 of 2018. Following that the Maltese Commissioner for Revenue (“CfR”), issued its guidelines on the income tax, stamp duty and VAT perspective in relation to Digital Ledger Transaction (DLT) assets. These guidelines have been issued under Article 96(2) of the Income Tax Act.

The Virtual Financial Assets Act seeks to provide regulation and investor protection through a variety of obligations, assurances, and guidelines. One particular part of the VFA Act pertains to Initial VFA Offerings, therefore covering inter alia Initial Coin Offerings and token offerings. Under the new rules, companies operating in the sphere of virtual financial assets may be required to apply for a licence with the Malta Financial Services Authority, as well as adhere to a number of stipulations regarding the whitepaper, marketing materials, and civil liabilities. They are also required to implement a fully compliant Know Your Customer (KYC)/ Anti-Money Laundering (AML) checks that are applied to all parties deemed necessary by both local, and EU law.

Similarly, the Innovative Technology Arrangements and Services Act is intended to be an extension to the Malta Digital Innovation Authority Act (MDIA) and the VFA Act. The ITAS act provides the definitions to `Innovation Technology Arrangement` (UTA) and `Innovative Technology Services` (ITS) which are subject to eligibility under the Maltese Authority rulings.

2.

What are crypto assets from an income tax point of view?

The Maltese Commissioner for Revenue (CfR) has classified Distributed Ledger Technology (DLT) assets into two (2) categories. The first category is “Coins”, whereby the CfR determined that Coins refer to those DLT assets, that do not have the characteristics of a security and that have no connection with any project or equity in the issuer, and whose utility, value or application is in no way directly related to the redemption of goods or services. The CfR deems DLT assets as cryptocurrencies that are designed to be used as a means of payment or a medium of exchange, or else

as a store of value. The CfR deems coins to functionally constitute the cryptographic equivalent of FIAT currencies. The second category is “Tokens” which are sub-categorised into two (2), Financial Tokens and Utility Tokens.

In respect of Financial Tokens, the CfR deems such DLT assets as presenting qualities which are similar to those presented by equities, debentures, units in collective investment schemes, or derivatives including financial instruments which are referred to in the crypto world as security, asset or asset backed tokens. The CfR understands that such tokens would be analogous to equities, debentures, units in collective investment schemes, or derivatives including financial instruments, where such instruments would grant rights to dividends in a similar fashion or alternatively could grant rewards based on performance, voting rights, or represent ownership or rights in assets or a combination of both.

The CfR deems Utility Tokens as DLT assets, whose utility, value or application is restricted solely to the acquisition of goods or services either solely within the DLT platform or in relation to which they are issued with a limited network of DLT platforms. This definition very much reflects the understanding of the Malta Financial Services Authority. The CfR includes under

the term Utility Token all other DLT assets that are tokens whose utility is restricted solely to the acquisition of goods or services, whether or not listed, may be transferred on a peer to peer basis or converted into another type of DLT asset, but only until such time as it is so converted.

The CfR also looks at hybrid tokens and states that the tax treatment should be dependent on the nature of the token at that particular moment in time. If the intention of such token, is that of a Utility Token, then it needs to be treated as such. Nonetheless the CfR also leaves room for interpretation, wherein its guidelines the CfR states that the tax treatment of any type of DLT asset will ultimately by determined not by its categorisation but on the purpose for and context in which such DLT asset is used.

3. What are the income tax consequences of selling crypto assets against fiat currency?

All transactions need to be analysed by reference to the nature of the activity, the status of the parties and the specific fact and circumstances of the particular case.

In the case of coins sold against fiat currency, the income tax treatment shall be the same as any other sale transaction between any other currencies. The determinant factor for tax purposes is not the categorisation of the type of asset but the purpose and context in which it is used. In order to arrive at the value of income to brought to tax, one needs to establish the market value of the crypto asset.

In the case of transfer of financial or utility tokens, one needs to analyse if the transfer is of a trading or capital nature. In the case of a trading transaction, tax will be charged as usual by adding the revenue from this transaction with all the trading profits for the year. In the case of financial tokens which are

of a non-trading nature, one needs to check if the transaction falls under the capital gains rules under Article 5 of the Income Tax Act. The analysis shall classify if the tokens meet the definition of securities. Transfers of tokens which do not fall within the definition of securities, fall outside the scope of the tax on capital gains.

4. What are the income tax consequences of exchanging crypto assets against crypto assets?

The tax consequences for the exchange of one asset to another depends on the market value of the assets in question and the capital gain made on such exchange. One also needs to assess if this transaction falls under the provisions of the capital gains rules of Article 5 of the Income Tax Act. As an example, transfers of convertible tokens which would not be issued as a financial token at issue date do not fall under the capital gain rules unless they are converted into securities.

5. What are the income tax consequences of trading in crypto assets?

For Maltese income tax purposes, any return derived from Financial Tokens, whether received in FIAT, in crypto or in kind, should be treated as income. The tax treatment of the transfer of a Financial or Utility Token depends mainly on whether the transaction (transfer) is of a trading nature or of a capital nature.

If the transfer is in the form of trading transaction, the consideration should be treated as a receipt of revenue/income. Therefore transfers or trades which are made as a result of the ordinary course of business are to be taxed as trading transactions. A proper analysis would be needed to determine whether one or more transactions would determine such

transactions to be of a trading or nontrading nature. Therefore if the transaction is determined to be a trading transaction, ordinary income tax rules shall apply, and accordingly, profits from the sale of tokens which would have been acquired with the intention of resale at a profit from a profitmaking undertaking or scheme, are to be treated as trading profits.

If the transaction is not a trading transaction, according to the CfR, one would need to determine whether such transfer falls within the scope of the provisions on capital gains. Such determination would need to result in an understanding on whether such token would meet the definition of a “security” under the Income Tax Act. If such a transaction does not qualify under the definition of “securities”, then transfers on Utility Tokens would fall outside the scope of capital gains.

6. What are the income tax consequences of forks of crypto assets?

A fork in a crypto asset occurs when parties within the DLT network are not in agreement and this results in a split of such DLT network, creating alternative chains, such as with Ethereum, which when forked ended up with Ethereum and Ethereum Classic. Forks can form in two ways which are a soft fork or a hard fork. In a soft fork, is a software update which would still be compatible with the previous version. A hard fork is when a software update is not backwards compatible therefore all blocks need to follow the new rules to remain valid.

When a hard fork occurs, the person who held the original tokens has now given up such tokens in exchange for the new tokens. The event would need to be analysed to determine whether it is an event of a trading nature or not. The Maltese Income Tax guidelines are silent in this respect.

From an analysis point of view, upon the transfer to the new version of the blockchain, each crypto asset would be worth more or less, depending on the market value of the new tokens. If a profit is realised from the sale of the asset, then tax is to be paid as it would be similar to trading income. If tokens would be held as an investment, then one needs to analyse if capital gains tax is triggered. In the event of a soft fork, this change does not create a new cryptocurrency, therefore no profit or loss would be realised. Apart from the trigger of direct taxation, Stamp Duty will also be triggered and the respective guidelines shall be followed with respect to duty on transfer of assets.

7. What are the income tax consequences of airdrops of crypto assets?

Airdrops are a distribution of a cryptocurrency for free with the intention of gaining attention and attracting new followers to widen the user base of such crypto asset. Whilst the concept of air drops is not mentioned in the guidelines issued by the CfR, by analogy an airdrop is somewhat similar to the issue of bonus shares, whereby an individual is given shares as a bonus. From a Maltese perspective, bonus shares are treated in the same manner as dividends. In terms of the Maltese Income Tax Act, since the entity would be distributing cryptoassets to its users, upon allocating such, the entity should send to the token holder a statement showing the gross tokens, the tax paid on behalf of the token holder and the net amount involved in the allocation of the airdropped tokens. There are two ways of losing crypto assets. The first is through theft which can happen from hacking of system through cyberattack. In such a case, if the blockchain does not manage to recoup the stolen bitcoins, a loss needs to be declared.

In the second case, one can lose the key to access the system, therefore, although the bitcoins would still remain on the blockchain, without having access to these assets, one can never redeem them to check is a realised profit or loss could be done. In such a case, one also needs to show a loss and write off the tokens from assets.

Although the CfR has not yet issued any guidelines in respect to pool mining, we believe that it should be treated like a partnership. Revenue will be received by the partnership for the mining work provided and then distributed to the partners with respect to the output given individually, thereby each partner being responsible for their own self tax assessment.

Individuals usually work as employees or self-employed entrepreneurs. Employers record and collect taxes on behalf of their employees. Individuals who work as independent entrepreneurs would need to declare their own taxes.

In relation to Value Added Tax on mining activities the VAT guidelines provide for two instances. Where mining constitutes a services, for which compensation arises in the form of newly minted coins. This case would fall outside the scope of VAT since there would be no direct link between the compensation received and the service rendered, and there would be no reciprocal performance between a supplier and receiver.

If on the other hand, miners receive payment for such activities, such is deemed to be a provision of services and such service would result in a chargeable event for VAT purposes. If the supply of the service would be in Malta, Maltese VAT would apply.

It must be noted that the loss is only deductible for Income Tax if one demonstrates that a reasonable effort was done to recoup such assets.

9. What are the income tax consequences of solo, pool and cloud mining?

For Income Tax purposes, the CfR guidelines mention that gains or profits in relation to revenue made from the mining of cryptocurrencies should be considered as income and subject to income tax. The local guidelines do not distinguish between the three different ways of mining. Solo mining is when an individual does all the mining work, without any help from anyone else.

A pool mining is when individuals pool resources together and compensation would be shared together depending on the amount of work performed. Cloud mining is the process of bitcoin mining utilizing a remote datacenter with shared processing power. Cloud mining enables users to mine bitcoins or alternative cryptocurrencies without managing the hardware.

10. What are the income tax consequences of staking crypto assets?

In order to understand the tax consequences of staking crypto assets, one needs to better understand what staking means. The term “to stake” refers to a process through which a node on a DLT network sets aside a certain number of coins to participate in a process employed within the network. Such cryptocurrency networks which support staking make use of the Proof-of-Stake (PoS) consensus mechanism.

Staking coins is considered as a smarter way of HODLing. Within the cryptocurrency community, HODLing is a term that refers to the practice of holding an asset for an extended period to maximize profits in the long-term. Staking, on the other hand,

allows users to keep their assets stored away safely in a manner that still supports profit-making. While HODLing is a passive action, staking is the opposite as people who participate in this manner are likely to see the value of their tokens increase over time.

The Maltese CfR guidelines do not make a direct reference to staking, however one should look at the purpose of such an activity. If the purpose of staking is seen as part of the ordinary course of business, any revenue or profits made would be deemed to be income and subject to income tax as per the ordinary rules as determined in terms of the Maltese Income Tax Act. If on the other hand, the intention of staking would be to hold as a long term investment, the resulting capital gain could fall outside the scope of the capital gains rules.

11. What are the income tax consequences of distributions on crypto assets?

Distributions from crypto assets either in FIAT or in crypto would be deemed to be income and therefore liable to tax in terms of the Maltese Income Tax Act. However, Malta has a full imputation system and consequently if distribution is in the form of a dividend these would not be taxed again in the hands of the shareholder as already taxed at company level.

12. What are the income tax consequences of operating crypto ATMs?

The provision of a service for which a fee is being earned in the provision of such service would lead to such income to be liable to Income Tax like any normal trading operation.

When one uses a crypto ATM, fiat currency is changed into crypto currency. Therefore we would need to asses a transfer from one currency to another asset. The transaction in itself of exchanging fiat into crypto assets does not trigger tax. Tax would subsequently be triggered once the crypto asset will be exchanged to other crypto assets or redeemed to fiat currency.

From a taxation point of view, the department needs to make sure that the crypto company operating the exchange would be duly registered and paying all respective taxes on profits made by operating such exchange. and a capital gains perspective. Nonetheless the revenues generated through the proceeds of such an issuance would then be liable to Income Tax during the course of normal business operations. From a VAT perspective, the issuance of an ICO/STO/IEO does not constitute a chargeable event for VAT purposes.

15. What are the income tax consequences of an indirect investment in crypto assets?

An indirect investment in crypto assets may constitute the investment in a company operating in the infrastructure of crypto assets. In this way, one would still be investing in crypto without actually buying any crypto assets. Since this type of investment will still be in fiat currency, the usual Maltese Income Tax rules would apply in the case of a dividend distribution to investors which shall be taxable at gross value. The company on the other hand shall pay taxation on any profits made as per operation process of the company.

13. What are the income tax consequences of operating a crypto exchange?

Crypto Exchange platforms which are generating profits from the provision of the platform service shall be treated like normal trading company and hence such income will be chargeable to tax under the normal principle of Maltese Income Tax law and regulations. From a VAT perspective, this would constitute a supply of services for consideration and Maltese VAT would be applicable unless an exemption from the VAT may be availed of.

14. What are the income tax consequences of selling crypto assets in an ICO/STO/ IEO?

For Maltese Income Tax purposes, the raising of finance through an ICO/STO/ IEO would not be considered as an income generating event and therefore would not be liable to tax both from an income perspective

16. What are the income tax consequences of receiving wages or salaries in crypto assets?

When a payment is made or received in a cryptocurrency, such payment is deemed to be treated as a payment in any other currency and this would therefore mean that it is subject to income tax as any other income.

17. What are the income tax consequences for a merchant receiving payment in crypto assets?

When a merchant is accepting payment for goods or services in the form of cryptocurrencies, for Maltese Income Tax purposes there is no change to when the revenue is recognised or the manner in which taxable profits are calculated.

18. How is income from crypto assets to be treated under double tax treaty law?

To date, there is no reference to crypto assets in the present double taxation treaty. Until guidelines are issued or a clause would be included in these treaties, one should assess the presented transaction and analyse how this would have been treated for taxation if transaction had been between fiat currencies.

19. What are the value added tax/sales tax consequences of selling crypto assets?

In the case of Financial Tokens, which are used to raise capital, such an issue would not give rise to any VAT implications. In respect of Utility Tokens, where such token carries the obligation to be accepted as consideration of part thereof for the supply of a good or service, then VAT would be applicable. In respect of hybrid tokens, one would need to determine the ‘state’ of that token at that particular point in time when the transaction was undertaken.

20. Do transactions with crypto assets trigger any transfer taxes?

Stamp Duty treatment in relation to transactions involving DLT assets shall be assessed through the determination of whether such DLT assets have the same characteristics of “marketable securities” as defined in the Income Tax Act. If such definition is satisfied, then Stamp Duty shall be paid in accordance with the provisions of Duty on Documents and Transfer Act.

21. Do transactions with crypto assets trigger any gift or inheritance taxes?

There are no inheritance, gift or wealth taxes in Malta. At the same time, tax is imposed on the transfer of certain capital assets such as immovable property and shares. The CfR have not yet issued any guidelines on taxation after the transfer of crypto assets as gifts. At this stage, one should analyse carefully the tax liability upon sale of non-virtual assets and apply the same principles to crypto assets.

22. Are crypto assets subject to exit tax?

ATAD rules have been implemented in Malta on the 1 st of January 2019 with the exception of Exit tax rules which were applicable from the 1 st of January 2020. To date, the CfR has not issued any guidelines on exit tax treatment of crypto assets. One

needs to analyse if these assets were being kept as a long-term investment or trading purposes.

In the case of long-term held assets, one needs to analyse the residence state of the blockchain in question due to the decentralised blockchain system, and subsequently analyse tax consequences in the case that the same transaction was in fiat currency or any other asset held in Malta.

23. Can mining trigger gambling tax?

Gaming tax in Malta is at a rate of 5% on gaming revenue for Malta based players. In mining, one is preparing and processing transactions or producing new bitcoin. Alternatively, mining is also necessary for miners to make the payment network trustworthy and secure by verifying its transaction information. Therefore this process does not fall under gambling which is a mere dependence of luck unlike mining which is a service being provided to the blockchain company.

A person who is not a professional gamer shall include all income gained from gambling in the “Other Income” section of the Tax Return and tax on progressive rates appropriately. In the case of a professional gamer who undertakes this job on a full-time basis, would usually be classified between self-employed gambling. For tax purposes, all income shall be listed in tax return and taxed on progressive rates.

24. What documentation requirements exist for taxpayers regarding crypto assets?

Tax payers are to maintain all necessary records and documentation as would be required if they were to receive income, gains or profits from ordinary activities. In

the CfR guidance note the CfR states that “Any obligation under the Income Tax Acts to keep proper records applies to transactions involving DLT assets. Values expressed in a cryptocurrency will need to be translated to the reporting currency in which the taxpayer presents its financial statements. Applicable sanctions in terms of the said Acts shall apply where proper records are not kept and where there is failure to report and pay any liability to tax.”

25. What measures have tax authorities undertaken in the past to ensure crypto tax compliance?

The field of crypto tax compliance is a relatively new area and the tax authorities are still developing their policies and procedures. Nonetheless the CfR has issued its guidance which is available to the general public in relation to its expectations for the treatment of income or gains from crypto assets.

26. Are crypto exchanges subject to CRS/ FATCA?

Due to the uncertainty in the respect to FATCA, US investors or clients of Maltese crypto-exchanges should verify on a regular basis their US tax obligations, including FATCA.

Currently no reporting is required under FBAR (“Foreign Bank Account Reporting”) as noted by FinCEn (“Financial Crimes Enforcement Network”) which in mid-2019 reported that the list “types of reportable accounts” currently do not include crypto currency accounts.

27. Is it possible to discharge tax debts with crypto assets?

The Maltese CfR to date does not accept payments of dues to it in crypto assets.