Bitcoins are a digital currency obtained when computers compete to solve mathematical problems and the winning 'miner' is rewarded with a block of new Bitcoins. The virtual currency's decentralized network has been programmed to release 21 million Bitcoins at a progressively slower rate with the size of each batch dropping by half approximately every four years. Therefore, in spite of the fact that more than half have already been mined, the size of each batch of Bitcoins won't reach zero until 2140.
The virtual currency is not supported by any government or central bank and has been described as an "individualistic monetary system." As there is no regulatory oversight over Bitcoins at the moment, they can be traded anonymously – only a computer code identifies a user in a Bitcoin transaction and this code changes. However, this feature of Bitcoins may be short lived as bank regulators in New York anticipate implementing rules to address business transactions being completed in Bitcoins during the current year.
Although owners store the Bitcoins in digital wallets and can transfer them over the Internet, they are not legal tender in Canada. Their value fluctuates according to demand by users – the Bitcoin Price Index Chart on Coindesk rose from $13.51 at the start of last year to a November high of $1,165.9 before it dropped to $757.50 at the end of the year. More recently, the value of Bitcoins has been falling as certain marketplaces have encountered unforeseen technical issues. Despite these downward fluctuations, there are still those who believe Bitcoin values will increase over time due to their fixed total number.
Bitcoins have become quite popular of late: tens of thousands of businesses around the world now accept the virtual currency including the National Basketball Association's Sacramento Kings which will let fans use Bitcoin to purchase tickets, merchandise and food; merchant processor Bitpay has more 20,000 separate clients; and e-commerce site Overstock.com plans to become the first major U.S. retailer to accept the digital currency. In Canada, there are over 100 businesses that currently accept Bitcoin as a form of payment, according to CoinMap, a website that tracks Bitcoin usage around the world. Vancouver, Ottawa and Toronto all have Bitcoin ATMs and Montreal unveiled its first one during this month.
Canadian Tax Overview
Canada Revenue Agency (CRA) treats Bitcoins as a commodity for the purposes of the Income Tax Act (Canada) as they are not considered to be a currency issued by a government of a country. If you use Bitcoins to purchase goods or services in Canada, the barter rules of the Income Tax Act apply. CRA provides guidance on the Canadian tax implications of a barter transaction in Interpretation Bulletin IT-490, "Barter Transactions". Paragraph 3 of that interpretation bulletin describes a barter transaction as "effected when any two persons agree to a reciprocal exchange of goods or services and carry out that exchange usually without using money".
The rules in the Income Tax Act assume that a person or business selling a good or service that accepts Bitcoins must consider the value of the Bitcoins received to be equal to the value of the good or service they are offering. Therefore, the person must include in their income an amount equal to the price (in Canadian dollars) that the taxpayer would normally have charged an arm's-length person for the goods or services. Any Canadian business that sells its goods or services for Bitcoins must remember to report the income from these transactions.
If you trade or sell Bitcoins like a commodity, any gain or loss is taxable on account of income or capital. You can determine whether this gain or loss would be considered income or capital in your case by reviewing CRA's Interpretation Bulletin IT-479R, "Transactions in securities". Assuming that the sale is on account of capital, if the value of your Bitcoins increased by $1,000 between when you purchased them and when you sold them, you would have a capital gain of $1,000 and a taxable capital gain of $500.
Finally, if you donate gifts to a 'qualified donee' as that term is used under the Income Tax Act, you should make sure to record the fair market value of the Bitcoins at the time they are transferred for your records. This number is used in determining the eligible amount of the gift for tax purposes.
For the purposes of determining the GST/HST payable, if a taxable supply of a goods or services is made in exchange for Bitcoins, the consideration for the supply is deemed to be equal to the fair market value of the Bitcoins at the time the supply is made. If you are a GST/HST registrant who, for example, sells guitars for 25 Bitcoins and the sale is subject to GST/HST, you will be required to collect the GST/HST calculated on the fair market value of the 25 Bitcoins at the time of the sale. You will also be required to include in your net tax remittance the GST/HST collectible. The buyer of your guitars, if a GST/HST registrant, will be eligible to claim an input tax credit for the GST/HST to the extent the good is for consumption, use or supply in such buyer's commercial activities (which seems unlikely with guitars).
CRA's positions on these issues are set out here and in CRA Document No. 2013-0514701I7 "Bitcoins" (December 23, 2013). Unfortunately for Bitcoin miners, CRA does not provide any guidance on whether producing Bitcoins through mining constitutes earning income.
In the Government of Canada's 2014 Budget, the Government indicated that they will introduce anti-money laundering and anti-terrorist financing regulations for Bitcoins and other virtual currencies.
US Taxation & Regulation of Bitcoins
The US government has not determined how it will approach Bitcoin taxation. The Internal Revenue service said in an emailed statement that it is "aware of the potential tax-compliance risks posed by virtual currencies" and "continues to study virtual currencies and intends to provide some guidance on the tax consequences of virtual-currency transactions".
Peter J. Henning, a professor at Wayne State University Law School, has written an interesting piece on the development of Bitcoin regulation in the United States that may be of interest.
Merchants have good reason to monitor the development in the virtual currency space while initial problems are sorted out because of the potential of virtual currencies to eliminate certain business costs which currently exist and thus make it easier to buy and sell over the Internet. Use of Bitcoins would avoid exchange rate issues and transaction fees are reportedly lower than those associated with credit cards. Some people believe that Bitcoins could be a critical component improving the global financial system.
That being said, participants in this unregulated space are strongly urged to proceed with caution. This week Mt. Gox, one of the largest Bitcoin exchanges, halted trading and there are indications that over 700,000 Bitcoins have gone missing. It is unclear whether this incident is an "isolated case of mismanagement" as other exchanges are calling it, a natural part of Bitcoin's development or whether it represents a major step backwards for virtual currencies.
If you are interested in purchasing Bitcoins in Canada, one service available is Tinkercoin where you are able to purchase Bitcoins with a credit card. There is a six percent fee in addition to the cost of purchasing the Bitcoins. I haven't used this service personally so please use caution when purchasing Bitcoins from it or any other service. There may also be the possibility of investing in Bitcoins in the future through a Bitcoin exchange-traded fund.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.