Canada: Cryptocurrencies And Income Taxes

Last Updated: March 20 2019
Article by Daniel Ling

Cryptocurrencies: One year later...

Following the considerable rise and drop in the price of Bitcoins and similar cryptocurrencies, here's how those who suffered losses may be able to take advantage of the unfortunate situation for tax purposes.

When and how the losses from Bitcoins and similar cryptocurrencies can be recognized and deducted will depend on whether the cryptocurrencies were held as:

1. Investments on account of capital; or
2. Inventory on account of income.

A detailed description of each scenario is outlined in our previous publication: A Guide to Bitcoins and Income Taxes.

Losses When Cryptocurrencies Have Been Held as Investments

When cryptocurrencies have been held as investments on account of capital, only losses from an actual disposition, usually through a sale or exchange, of the cryptocurrency can be utilized for income tax purposes. Unrealized or accrued losses from a drop in the cryptocurrency price still owned are not recognized as losses for tax purposes until they are ultimately disposed of.

It is also important to consider whether the loss incurred is a superficial loss. A superficial loss occurs when a taxpayer or an affiliated person purchases the same cryptocurrency (i.e. substituted property) 30 days before or after the sale and the taxpayer or an affiliated person (a spouse or an entity controlled by the taxpayer or spouse) continues to own the substituted property 30 days after the sale.

A superficial loss is denied initially and is added to the cost basis of the substituted property. When the substituted property is subsequently sold, a loss may be realized at that time depending on the proceeds received.

For example, say an individual purchased a Bitcoin in 2017 for $12,000 and held it for speculative investment purposes. On May 4, 2018, the individual sold that Bitcoin for $8,000, generating a capital loss of $4,000. On the same day, the individual's spouse purchased a Bitcoin for $8,000 and held the Bitcoin for the remainder of 2018. The individual is affiliated to the spouse who still holds the Bitcoin (i.e. the substituted property) 30 days after the sale. Therefore, the $4,000 capital loss is considered a superficial loss. Consequently, the individual cannot claim the $4,000 capital loss and the cost basis of the spouse's Bitcoin is now $12,000 ($8,000 purchase price + $4,000 superficial loss).

Assuming a loss is not a superficial loss, only half of the realized loss on the disposition of cryptocurrency held as an investment on account of capital is deductible as an allowable capital loss for income tax purposes. An allowable capital loss can be used to offset any taxable capital gains realized in the current year. Any allowable capital loss that cannot be used in the current year can be carried back and applied against taxable capital gains reported in any of the three previous years or carried forward indefinitely and used in a future year.

Losses When Cryptocurrencies Have Been Held as Inventory

Cryptocurrencies held on account of income are considered inventory, which is generally recorded at the lower of cost (i.e., the amount originally paid) and market (i.e. the current market value price). If, at the end of the taxation year of the business, the prevailing market price is less than the amount initially paid for the cryptocurrency, the taxpayer may have experienced a loss.

The loss on cryptocurrencies held as inventory on account of income is treated as a business loss. A business loss can be used to offset any other type of income in the current year. Furthermore, any business loss that cannot be used in the current year can be carried back and applied against income reported in any of the three previous years or carried forward to be used in any of the next 20 years.

Next Steps

Taxpayers must ensure that losses are calculated correctly based on how they held the cryptocurrency and possibly how they reported gains in prior years. Once determined, the losses, if applicable, must be reported in the year they are incurred. From there, the losses must first be utilized in the current year to the fullest extent possible, otherwise, they can be carried back or carried forward. To claim a capital loss or a business loss in a prior year, individuals can file Form T1-ADJ, T1 Adjustment Request, or use the online services provided by the Canada Revenue Agency ("CRA"). Depending on the situation, the CRA may require additional supporting documentation before processing the request.

Once a request has been processed, the CRA will issue a notice of reassessment for the prior year and will issue the requisite tax refund. If the CRA fails to process the adjustment correctly, individuals have the later of one year after the filing deadline of the tax return or 90 days after the mailing date on the notice of reassessment to object to the notice of reassessment.

Despite the roller coaster of prices, it is undeniable that cryptocurrencies have revolutionized many aspects of society and has caught the attention of the CRA. Taxpayers must stay updated on the latest tax developments as the CRA further establishes their position on cryptocurrencies.

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.

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